3.06 Market Equilibrium

Introduction

In a market economy, price is extremely important. Price serves as a signal to producers. A higher price signals the value of an item to a consumer and gives an incentive to a producer to make a larger quantity of the item.

This lesson will explain the dilemma between the Law of Supply and the Law of Demand. The dilemma is consumers want to buy a larger quantity of a good or service when the price is low, but producers will supply a lower quantity with a low price; suppliers always want to supply a larger quantity of an item when the price rises, but the consumers want to purchase fewer of that item at a higher price.

If you graph the supply and demand curves together it becomes obvious that there is only one price where consumers and producers agree on the quantity of the item needed. This point of agreement is called either the Market Clearing Price or the Equilibrium Price. Understanding how the market sets a price you will learn how shortages and surpluses are corrected. The unit will also deal with the government's attempt to artificially set prices by creating Price Floors and Price Ceilings.