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Microeconomics ECO001
Lecture 3- Market Equilibrium and Efficiency
Topics to be discussed:
Market Equilibrium
Shift of Demand and Supply Curve
Demand, Marginal benefit and Consumer
Surplus
Supply, Marginal Cost and Producer Surplus
Market and Efficiency
Ref: Parkin, Chapters 3 and 5
Learning Outcomes
After this lecture, students should be able to:
Explain how demand and supply determine prices
and quantities bought and sold
Use demand and supply to make predictions about
changes in prices and quantities
Explain the connection between demand and
marginal benefit and define consumer surplus
Explain the connection between supply and
marginal cost and define producer surplus
Explain the conditions under which markets move
resources to their highest-value uses
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Market Equilibrium
Equilibrium is a situation in which opposing
forces balance each other. Equilibrium in a
market occurs when the price balances the
plans of buyers and sellers.
The equilibrium price is the price at which
the quantity demanded equals the quantity
supplied.
The equilibrium quantity is the quantity
bought and sold at the equilibrium price.
Price regulates buying and selling plans.
Price adjusts when plans dont match.
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Market Equilibrium
At prices above the
equilibrium price, a
surplus forces the price
down. At prices below
the equilibrium price, a
shortage forces the
price up.
At the equilibrium price,
buyers plans and
sellers plans agree
and the price doesnt
change until some
event changes either
demand or supply.
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Lisa and Nick are the only buyers in the market for pizza.
At $1 a slice, the quantity demanded by Lisa is 30
slices and by Nick is 10 slices.
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Consumer Surplus
Consumer surplus is the value of a good
minus the price paid for it, summed over
the quantity bought.
It is measured by the area under the demand
curve and above the price paid, up to the
quantity bought.
The figure on the next slide shows the
consumer surplus from pizza when the market
price is $1 a slice.
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Consumer Surplus
At $1 a slice, Lisa spends $30, Nick spends
$10, and together they spend $40 on pizza.
The consumer surplus is the value from pizza
in excess of the expenditure on it.
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Producer Surplus
Producer surplus is the price received for
a good minus the minimum-supply price
(marginal cost), summed over the quantity
sold.
It is measured by the area below the market
price and above the supply curve, summed
over the quantity sold.
The figure on the next slide shows the
producer surplus from pizza when the market
price is $15 a pizza.
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Producer Surplus
The red areas show the cost of producing the
pizzas sold.
The producer surplus is the value of the pizza
sold in excess of the cost of producing it.
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Effects of Underproduction
The efficient quantity is
10,000 pizzas a day.
Underproduction
If production is restricted
to 5,000 pizzas a day,
there is underproduction
and the quantity is
inefficient.
A deadweight loss
equals the decrease in
total surplusthe gray
triangle.
This loss is a social loss.
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Effects of Overproduction
Again, the efficient
quantity is 10,000
pizzas a day.
If production is
expanded to 15,000
pizzas a day, a
deadweight loss
arises from
overproduction.
This loss is a
social loss.
Overproduction
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Exercise 3.1
It is observed in the handphone market that
there are more people using handphones and
also handphones become cheaper. This could
be due to:
(a) an increase in consumers income
(b) a greater preference in using handphone
(c) an improvement in technology of producing
handphone
(d) an increase in wages in the handphone
industry
(e) an increase in the population
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Exercise 3.2
One observes that the equilibrium price of DVD
player increases and the equilibrium quantity
also increases. Which of the following best fits
the observed data?
A)
An increase in demand with supply
constant.
B)
An increase in demand coupled with a
decrease in supply.
C)
An increase in demand coupled with an
increase in supply.
D)
A decrease in demand with supply
constant.
E)
Demand constant and an increase in
supply.
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Exercise 3.3
Suppose a market is in equilibrium. The
area between the market price and the
supply curve is
D) producer surplus.
E) consumer surplus.
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Exercise 3.4
What are the effects on the eggs market
when (i) the bird flu makes consumers
concern about eating eggs and (ii)
Singapore ban the import of eggs from
Malaysia? Considers both incidents
occur together.
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P
P
D
D
Q
P
P
D
D
Q Q
P
Q
D
D
Q
Q
Exercise 3.5
Is it true that if a product is regulated by
the market system, the maximum
welfare is achieved?
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S
CS
PS
Exercise 3.6
Explain changes in respective market equilibrium price and
quantity with a suitable diagram for the following
incidents.
1) In the computer software market, the number of
companies selling computer software decreases.
2) In the market for bicycles, there is an increase in the
price of steel used to make bicycles.
3) In the home heating oil market, the price of natural gas
increases. (Consumers can use either natural gas or
heating oil to warm their houses. Suppose the price of
natural gas increases.)
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ii.
iii.
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