Theory: Changes in Market Equilibrium

Microeconomics: Changes in Market Equilibrium

As has already been discussed, supply and demand respond to changes in many variables such as wage rates, capital costs and income. Moreover, the market mechanism develops an equilibrium. Now, we must go that step further and notice how changes in supply and demand curves cause a change in the equilibrium.

Firstly, let’s look at shifts in the demand curve.

A rightward shift in the demand curve could have potentially arisen due to an increase in income. The original equilibrium before the shift was at (Q,P) but now the new equilibrium after the shift is at (Q1,P1). This is called the new equilibrium position. In this case, this is at a higher price and also at a greater quantity so the market now clears at a higher price and quantity when the demand curve shits out right.

Now, let’s look at shifts in the supply curve.

A rightward shift in the supply curve could have potentially been caused by a fall in the price of raw materials. The original equilibrium before the shift was at (Q,P) but now the new equilibrium is at (Q1,P1). This new equilibrium position has coincided with a fall in the price (from P to P1) and an increase in the quantity (from Q to Q1).

In most markets, both curves will fluctuate over time. Levels of disposable income change as the economy changes (boom/recession). The demand for certain goods changes with seasons of the year as well as changes in the prices of related goods or simply with a change in tastes. Likewise, capital costs, wage rates and raw material costs vary over tie and these variations cause shifts in the supply curve.

Supply and demand curves are therefore used to trace the effects of these changes. The changes are of price and quantity but to predict the size and directions of these changes, we have to quantitatively identify the dependence of supply and demand on price and other variables. This if the concept behind elasticities of supply and demand.

If you fancy learning more about economics and the financial world around you check out my other articles on my blog: http://insighteconomics.blogspot.co.uk/

Thanks for reading and if you have any queries please email me at:samandchrisshapley56@gmail.com or post a comment on the page itself and I’ll try to get back to you as soon as I can.