ECONOMICS TOPIC 3 LESSON 7 & 8

​ECONOMICS TOPIC 3

LESSON 7

Equilibrium and Price Controls

[ 3.7 ] Equilibrium and Price Controls

Learning Objectives

•Explain how supply and demand create equilibrium in the marketplace.

•Describe what happens to prices, quantities demanded, and quantities supplied when
equilibrium is disturbed.

•Identify two ways that the government intervenes in markets to control prices and
restricts the use of individual property.

•Analyze the impacts of price ceilings and price floors on the free market.

[ 3.7 ] Equilibrium and Price Controls

Key Terms

•Equilibrium – the point at which the demand for a product or service is equal to the
supply of that product or service

•Disequilibrium – any price or quantity not at equilibrium; when quantity supplied is
not equal to quantity demanded in a market

•Shortage – a situation in which consumers want more of a good or service than
producers are willing to make available at a particular price

•Surplus – when quantity supplied is more than quantity demanded

•price ceiling – a maximum price that can legally be charged for a good or service

•rent control – a price ceiling placed on apartment rent

•price floor – a minimum price for a good or service

•minimum wage – a minimum price that an employer can pay a worker for an hour of
labor

Achieving Equilibrium

When you go to the store to buy something—whether it’s a cellphone or a pair of shoes—you can usually find it. You are benefiting from the free market system at work. Businesses are making enough profit to produce and sell the goods you want at a price you are willing to pay.

Open Ended

Analyze Political Cartoons

How Would you describe the relationship between supply and demand here?

​The point at which demand and supply come together is called the equilibrium. Equilibrium is the point at which the quantity demanded equals the quantity supplied. At equilibrium, the market is good and stable

Balancing Supply and Demand​

Fill in the Blank

Market equilibrium is found at the price where quantity demanded equals quantity supplied. Analyze Data How many slices are sold at equilibrium?

​In any market, supply and demand will be equal at only one price and one quantity. At this equilibrium price, buyers will purchase exactly as much of a good as firms are willing to sell.

​Benefits to Buyers and Sellers

Multiple Choice

Identify Central Ideas How many equilibrium points can exist at the same time on a combined supply and demand graph? Explain.

• One; the supply and demand curves intersect at one point.

• Two; each supply and demand curve contains one equilibrium point.

• Three; the supply curve intersects the x-axis at one point, and the demand curve intersects the x-axis and the y-axis at one point each

• An infinite number; every point on the supply and demand curves are an equilibrium point

Effects of Disequilibrium

If the market price or quantity supplied is anywhere but at the equilibrium, the market is in a state of disequilibrium. Disequilibrium occurs when quantity supplied is not equal to quantity demanded in a market.

Effects of Disequilibrium

•Shortage

•Moving From Shortage to Equilibrium

•Surplus

•Moving From Surplus to Equilibrium

​Shortage

​The problem of shortage - aka excess demand - exist when the quantity demanded in a market is more than the quantity supplied. When the actual price in a market is below the equilibrium price, you have a shortage, because the low price encourages buyers and discourages sellers.

Fill in the Blank

Shortage results when quantity demanded in a market exceeds quantity supplied. Analyze Graphs What is the shortage when pizza is sold at $2 per slice?

​As long as there is a shortage and the quantity demanded exceeds the quantity supplied, suppliers will keep raising the price. When the price has risen enough to close the gap, suppliers will have found the highest price that the market will bear. They will continue to sell at that price until some factor changes either the demand or the supply curve, creating new pressures to raise or lower prices and, eventually, a new equilibrium.

​Moving From Shortage to Equilibrium

​Surplus

​If the price is too high, the market will face the problem of surplus, also known as excess supply. A surplus exists when quantity supplied exceeds quantity demanded and the actual price of a good is higher than the equilibrium price.

Open Ended

At a certain price, quantity supplied exceeds quantity demanded, creating a surplus. Analyze Graphs How might the pizzeria solve the problem of excess supply?

​Whenever the market is in disequilibrium and prices are flexible, market forces will push the market toward the equilibrium. Sellers do not like to waste their resources on a surplus, particularly on goods that cannot be stored for long, like pizza. And when there is a shortage, profit-seeking sellers realize that they can raise prices to earn more profits. For these reasons, market prices move toward the equilibrium level.

​Moving From Surplus to Equilibrium

Multiple Choice

Identify Main Ideas Under what conditions might a baker have to throw out many muffins at the end of the day?

• a surplus, when quantity demanded is lower than quantity supplied

• a surplus, when quantity supplied is lower than quantity demanded

• a shortage, when quantity demanded is lower than quantity supplied

• a shortage, when quantity supplied is lower than quantity demanded

Price Ceilings

Markets tend toward equilibrium, but in some cases the government intervenes to control prices. The government can impose a price ceiling, or a maximum price that can be legally charged for a good or service. The price ceiling is set below the equilibrium price.

Price Ceilings

•Effects of Government Rent Control

•Cost of Rent Control

•Consequences of Ending Rent Control

​Effects of Government Rent Control

​Rent control, or price ceilings placed on apartment rents, to prevent inflation during a housing crisis. Later, other cities imposed rent control to help the poor cut their housing costs and enable them to live in neighborhoods that they could not otherwise afford. Let’s examine how rent control affects the quantity and quality of housing available to consumers.

Open Ended

In these graphs, a price ceiling of $600 for rent-controlled apartments is below the equilibrium price. Analyze Graphs Why does rent control lead to a shortage of desirable apartments?

Cost of Rent Control

Since the rent controls limit landlords’ profits, landlords may try to increase their income by cutting costs. Why should a landlord give a building a fresh coat of paint and a new garden if he or she can’t earn the money back through higher rent? Besides, if there’s a waiting list to get an apartment, the landlord has no incentive to work hard and attract renters. As a result, many rent-controlled apartment buildings become run-down, and renters may have to wait months to have routine problems fixed.

Topic 3

Consequences of Ending Rent Control

Instead of spending time and money searching for apartments and then having to accept an apartment in a poorly maintained building, many renters would be able to find a wider selection of apartments. Landlords would also have a greater incentive to properly maintain their buildings and invest in new construction.

Topic 3

Multiple Choice

Apply Concepts How does a price ceiling affect the quantity demanded and the quantity supplied?

• It leads to a decrease in quantity demanded and a decrease in quantity supplied.

• It leads to a decrease in quantity demanded and an increase in quantity supplied.

• It leads to an increase in quantity demanded and a decrease in quantity supplied.

• It leads to an increase in quantity demanded and an increase in quantity supplied.

Price Floors

A price floor is a minimum price, set by government, that must be paid for a good or service. Governments set price floors to ensure that certain sellers receive at least a minimum reward for their efforts. Sellers can include workers, who sell their labor.

Topic 3, Lesson 7

Price Floors

•The Minimum Wage

•Agricultural Price Supports

​The Minimum Wage

One well-known price floor is the minimum wage, which sets a minimum price employers can pay for one hour of labor. (The federal government sets a minimum wage, but states can make theirs higher.) A full-time worker paid the federal minimum wage will earn less than government says is necessary to support a couple with one child. Still, the minimum wage does ensure a lower limit for workers’ earnings.

Topic 3

Open Ended

A minimum wage law can set the price of labor above the equilibrium price. Analyze Graphs In this graph, what happens to the supply of labor with a minimum wage of $7.25 per hour?

​Agricultural Price Supports

Agricultural price supports are another example of price floors used for farm products. Like the minimum wage, price supports have supporters and opponents.

Topic 3, Lesson 7

Open Ended

The U.S. government has supported milk prices by setting a price floor and buying the excess supply that results. Analyze Information What does the government do with the milk that it buys from farmers?

Multiple Choice

Predict Consequences How does a minimum wage above the equilibrium rate affect the labor market?

• It leads to a higher equilibrium wage for labor.

• It leads to a decreased supply of labor

• It leads to a lower equilibrium wage for labor.

• It leads to an excess supply of labor.

​ECONOMICS TOPIC 3

LESSON 8

Changes in Market Equilibrium

[ 3.8 ] Changes in Market Equilibrium

Learning Objectives

•Explain why a free market naturally tends to move toward equilibrium.

•Analyze how a market reacts to an increase or decrease in supply.

•Analyze how a market reacts to an increase or decrease in demand.

[ 3.8 ] Changes in Market Equilibrium

Key Terms

•Inventory – the quantity of goods that a firm has on hand

•search costs – the financial and opportunity cost that consumers pay when searching
for a good or service

Tending Toward Equilibrium

Do you anxiously scan the signs at the pump to see if the price of gas is up or down? Economists say that a market will tend toward equilibrium, which means that the price and quantity will gradually move toward their equilibrium levels.

Multiple Choice

Check Understanding What might cause orders for microwave ovens to increase and the availability of microwave ovens to decrease?

• falling prices

• fluctuating prices

• rising prices

• stable prices

Increasing Supply

You have learned about the different non-price determinants that can shift a supply curve to the left or to the right—that is, decrease or increase supply of a good or service in the marketplace. These factors include advances in technology, new government taxes and subsidies, and changes in the prices of the raw materials and labor used to produce the good or service.

Increasing Supply

•Market Changes

•Finding a New Equilibrium

•Changing Equilibrium

Market Changes

Gradually, improved technology for producing digital cameras caused prices to fall. 

Advances in technology have lowered the cost of manufacturing digital cameras by reducing some of the input costs, such as computer chips. Advances in production have allowed manufacturers to produce digital cameras at lower costs. These lower costs have been passed on to consumers in the form of lower prices.

Topic 3 | Lesson 8

Open Ended

As digital cameras became cheaper and easier to produce, the supply increased. Draw Conclusions Why do you think the pace of the falling prices began to slow in 2004?

Finding a New Equilibrium

Digital cameras evolved from an expensive luxury good to a midrange good when a new generation of computer chips reduced the cost of production. These lower costs shifted the supply curve to the right, where, at each price, producers are willing to supply a larger quantity.

A graph can show you how the shifts in supply threw the market into disequilibrium. 

Topic 3 | Lesson 8

​Changing Equilibrium

In real-life markets, equilibrium is usually not an unchanging, single point on a graph. The equilibrium in the digital camera market has always been in motion. The market equilibrium follows the intersection of the demand curve and the supply curve as that point moves downward along the demand curve.

Topic 3 | Lesson 8

Decreasing Supply

When the supply curve shifts to the left, the equilibrium price and quantity sold will change as well. This process is the exact opposite of the change that results from an increase in supply. As the supply curve shifts to the left, suppliers raise their prices, and the quantity demanded falls. The new equilibrium point will be at a spot along the demand curve above and to the left of the original equilibrium point. The market price is higher than before, and the quantity sold is lower.

Multiple Choice

Recall What caused the supply curve for digital cameras to keep moving to the right during the early 2000s?

• Falling transportation costs made them cheaper to supply.

• Higher taxes made them more expensive for consumers.

• Improved technology made them cheaper to produce.

• Increased inventories made them more expensive for sellers.

Multiple Choice

Recall: As the supply curve shifts to the left, what happens to the equilibrium point?

• It moves up the demand curve.

• It moves down the demand curve.

• It moves to the left as the demand curve shifts.

• It moves to the right as the demand curve shifts.

Increasing Demand

You know that fads reflect the impact of consumer tastes and advertising on consumer behavior. Fads like these, in which demand rises quickly, are real-life examples of a rapid, rightward shift in a market demand curve.

Almost every year, we experience a new fad—a product that enjoys enormous popularity for a fairly short time. Around November, a new electronic device, toy, or video game emerges as the “must-buy” item of the season.

Topic 3 | Lesson 8

Increasing Demand

Observe how a change in demand affects the original equilibrium point (a). Analyze Graphs a. What do
points b and c on this graph represent? b. How has the increased demand affected price?

Increasing Demand

•Shortages

•Return to Equilibrium

Shortages

The shortage appears as empty shelves or long lines. Shortage also appears in the form of search costs—the financial and opportunity costs that consumers pay in searching for a product or service. 

Topic 3 | Lesson 8

Open Ended

The supply of art from this painter is severely limited. Express Problems ClearlyAssuming significant demand, what effect would the limited supply have on the price for this art?

Return to Equilibrium

In time, firms will react to the signs of shortage by increasing their prices and the quantity supplied.

Topic 3 | Lesson 8

Multiple Choice

Check Understand: Which of the following explains why a firm’s decision to raise prices during a shortage helps lead to a return to equilibrium?

• Higher prices lead to a surplus of goods.

• Higher prices keep the shortage from ending.

• Higher prices decrease the quantity demanded.

• Higher prices help maintain the firm’s inventory.

Decreasing Demand

As demand falls, the demand curve shifts to the left. Suppliers will respond to decreased demand for the once-fashionable toy by cutting prices on their inventory. 

When a fad passes its peak, demand can fall as quickly as it rose. The shortage turns into a surplus for the once-popular toy, as parents look for new, trendier gifts for their children.

Topic 3 | Lesson 8

Open Ended

This is one of a shrinking number of consumers of old-fashioned photography supplies. Identify Cause and Effect What should be happening to the price of these products?

Multiple Choice

Recall Why has the demand curve for CDs shifted to the left in recent years?

• The supply of CDs has increased.

• Higher taxes have caused supply to decrease.

• New technology has caused demand to fall.

• The quality of sound produced by CDs is poor.