CBSE Class 11 Micro Economics Revision Notes for Market Equilibrium of Chapter 5

Introduction

This chapter helps to determine the market equilibrium, to define equilibrium price and equilibrium quantity and states how equilibrium changes due to increase and decrease in demand and supply.

Determination of Market Equilibrium under Perfectly Competitive Market
1. Market equilibrium refers to that point which has come to be established under a given condition of demand and supply and has a tendency to stick to that level, i.e. where Demand = Supply.
2. If due to some disturbance we divert from our position the economic forces will work in such a manner that it could be driven back to its original position, i.e., where Demand = Supply. In short it is the position of rest.
3. It can be explained with the help of the schedule and diagram:
(a) (i) In the given schedule market equilibrium is determined at Price Rs. 3 where Market demand is equal to Market Supply.
(ii) At price 1 and 2, there is excess demand, which leads to rise in price, resulting tendency is expansion in supply.
(iii) Similarly, at price 4 and 5, there is excess supply, which leads to fall in price, resulting tendency is Contraction in supply.

(b) (i) In the given diagram, price is measured on vertical axis, whereas quantity : demanded and supply is measured on horizontal axis.
(ii) Suppose that initially the price in the market is P₁. At this price, the consumer demand P₁B and the producer supply P₁A, i.e. consumers want more than what the producer are willing to supply. There is excess demand equal to AB. So, price cannot stay on P₁ as excess demand will create competition among the buyers and push the price up till we reach equilibrium.

Due to rise in price from P₁ to P₂ there is upward movement along the supply curve (expansion in supply) from A to E and upward movement along the demand curve (contraction in demand) from B to E.
(iii) Similarly, at price supplied P₂L. There is excess supply, equal to KL, which will create competition among the sellers and lower the price. The price will keep falling as long as there is an excess supply.
Due to fall in price from P₂ to P there is downward movement along the supply curve (contraction in supply) from L to E and downward movement along the demand curve (expansion in demand) from K to E.
(iv) The situation of zero excess demand and zero excess supply defines market equilibrium (E). Alternatively, it is defined by the equality between quantity demanded and quantity supplied. The price P is called equilibrium price and quantity Q is called equilibrium quantity.
Effect of Change in Equilibrium due to Increase and Decrease in Demand and Supply
Case I: Increase in Demand
1. An increase in demand leads to rightward shift of demand curve as shown in the figure below:
You Must Know When demand increases, then shifting should be such that initial price remains constant. It is so because increase in demand is the part of the shift in demand in which other factor changes and price remains constant.
Changes in Demand
(1) A to B because of increase in demand (shift in demand)
(2) B to C as price rises because of excess demand which leads to upward movement along the demand curve.

A to C as price rises because of excess demand which leads to upward movement along the supply curve.
2. We assume that initial price is OP and equilibrium quantity is OQ as shown above:
(a) In the above figure price is on vertical axis and quantity demanded and supplied is on horizontal axis. But due to increase in demand due to the following reasons the demand curve shifts rightward from DD to D₁D₁.
(i) Price of substitute goods rises.
(ii) Price of complementary goods falls.
(iii) Income of a consumer rises in case of normal goods.
(iv) Income of a consumer falls in case of inferior goods.
(v) When preferences are favourable.
(b) With new demand curve D₁D₁, there is excess demand at initial price OP because at price OP₁ demand is PB and supply is PA, so there is excess demand of AB at price OP.
(c) Due to this excess demand, competition among the consumer will rise the price. With the rise in price, there is upward movement along the demand curve (contraction in demand) from B to C and similarly, there is upward movement along the supply curve (expansion in supply) from A to C . So, finally equilibrium price rises from OP to OP₁, and equilibrium quantity also rises from OQ to OQ₁
Conclusion
Due to increase in demand,
(i) Equilibrium price rises from OP to OP₁
(ii) Equilibrium quantity also rises from OQ to OQ₁
Case II: Decrease in Demand
1. A decrease in demand leads to leftward shift of demand curve as shown in the below figure:
You Must Know
When demand decreases, then shifting should be such that initial price remains constant. It is so because decrease in demand is the part of the shift in demand in which other factor changes and price remains constant.
Changes in Demand
(1) A to B because of decrease in demand (shift in demand)
(2) B to C as price fall because of excess supply which leads to downward movement along the demand curve.

2. (a)A to C as price fall because of excess supply which leads to downward movement along the supply curve.
(i) Price of substitute goods fall.
(ii) Price of complementary goods rise.
(iii) Income of a consumer falls in case of normal goods.
(iv) – Income of a consumer rises in case of inferior goods.
(v) When a preference becomes unfavourable.
(b) With new demand curve D₁D₁, there is excess supply at initial price OP because at price OP demand is Pre and supply is PA so there is excess supply of AB at price OP.
(c) Due to this excess supply, competition among the producer will make the price fall. Due to fall in price there is downward movement along the demand curve
(Expansion in demand) from B to C and similarly there is downward movement along the supply curve (contraction in supply) from A to C. So, finally, the equilibrium price falls from OP to OP₁ and equilibrium quantity also falls from OQ to OQ₁.
Conclusion
Due to decrease in demand,
(i) Equilibrium price falls from OP to OP₁.
(ii) Equilibrium quantity also falls from OQ to OQ₁.
Case III: Increase In Supply
1. An increase in supply leads to rightward shift of supply curve as shown in the below figure:
You Must Know
When supply increases, then shifting should be such that initial price remains constant. It is so because increase in supply is the part of the shift in supply in which other factor changes and price remains constant.
Changes in Supply
(1) A to B because of increase in supply (shift in supply)
(2) B to C as price falls because of excess supply which leads to downward movement along the supply curve.
A to C as price falls because of excess supply which leads to downward movement along the demand curve.

2. We assume that initial price is OP and equilibrium quantity is OQ as shown above:
(a) In the above figure price is on vertical axis and quantity demanded and supplied is on horizontal axis. But due to increase in supply due to the following reasons:
(i) Fall in the prices of remuneration of factors of production.
(ii) Fall in the prices of other commodities.
(iii) Improvement in technology.
(iv) Change in objective of producer (inducing them to increase supply at the same price.)
(v) Taxation policy of government falls.
(b) The supply curve shifts rightward from SS to S₁S₁. With new supply curve S, S,, there is excess supply at initial price OP because at price OP₁ supply is PB and demand is PA, so there is excess supply of AB at price OP.
(c) Due to this excess supply competition among the producer will make the price fall. Due to this fall in price there is downward movement along the supply curve (Contraction in supply) from B to C and similarly, there is downward movement along the demand curve (Expansion in demand) from A to C. So, finally, equilibrium price falls from OP to OP₁ and equilibrium quantity rises from OQ to OQ₁
Conclusion
Due to increase in supply,
(i) Equilibrium price falls from OP to OP₁.
(ii) Equilibrium quantity rises from OQ to OQ₁.
Case IV: Decrease in Supply
A decrease in supply leads to leftward shift of supply curve as shown in the below figure:
You Must Know
When supply decreases, then shifting should be such that initial price remains constant. It is so because decrease in supply is the part of the shift in supply in which other factor changes and price remains constant.
Changes in Supply
(1) A to B because of decrease in supply (shift in supply)
(2) B to C as price rises because of excess demand which leads to upward movement along the supply curve.
Changes in Demand
A to C as price rises because of excess demand which leads to upward movement along the demand curve.

2. We assume that initial price is OP and equilibrium quantity is OQ as shown above:
(a) In the above figure price is on vertical axis and quantity demanded and supplied is on horizontal axis. But due to decrease in supply due to the following reasons the supply curve shifts leftward from SS to S₁S₁. (i) Rise in the prices of remuneration of factors of production.
(ii) Rise in the prices of other goods.
(iii) When the technology becomes outdated.
(iv) Change in objective of producer (inducing them to decrease supply at the same price).
(v) Taxation policy of government rises.
(b) With new supply curve S₁S₁ , there is excess demand at initial price OP because at price OP, supply is PB and demand is PA, so there is excess demand of AB at price OP.
(c) Due to this excess demand competition among the consumer will rise the price. Due to this rise in price there is upward movement along the supply curve (Expansion in supply) from B to C and similarly, there is upward movement along the demand curve (Contraction in demand) from A to C. So, finally, equilibrium price rises from OP to OP₁ and equilibrium quantity falls from OQ to OQ₁.
Conclusion
Due to decrease in supply,
(i) Equilibrium price rises from OP to OP₁
(ii) Equilibrium quantity falls from OQ to OQ₁

Simultaneously Increase and Decrease in Demand and Supply

Case I: Both Demand and Supply Increases: When both demand and supply increases, then there are three possibilities:
Case A: When Demand and Supply both Increase at the Same Rate
1. When demand and supply both increase at the same rate, equilibrium price remains constant and equilibrium quantity rises. It can be shown with the help of the following diagram.

Case B: When demand and supply both increase at the same rate, then equilibrium price remains constant.

2. We assume that initial price is OP and equilibrium quantity is OQ as shown above:
(a) In the above diagram price is measured on vertical axis and quantity demanded and supplied is measured on horizontal axis.
(b) But when, “demand and supply both increase at the same rate”, then,
(i) Equilibrium price remains constant at OP and
(ii) Equilibrium quantity rises from OQ to OQ₁
Case B: When demand increases, supply also increases but at a much faster rate l.When demand increases, supply also increases but at a much faster rate, then equilibrium price falls and equilibrium quantity rises as shown below:

2. We assume that initial price is OP and equilibrium quantity is OQ as shown above:
(a) In the above diagram price is measured on vertical axis and quantity demanded and supplied is measured on horizontal axis.
(b) But when “demand increases and supply also increases but at a much faster rate”, then,
(i) Equilibrium price falls from OP to OP₁ and
(ii) Equilibrium quantity rises from OQ to OQ₁
Case C: When supply increases, demand also increases but at a much faster rate
1. When supply increases, demand also increases but at a much faster rate, then equilibrium price rises and equilibrium quantity rises as shown below:

2. We assume that initial price is OP and equilibrium quantity is OQ as shown above:
(a) In the above diagram price is measured on vertical axis and quantity demanded and supplied is measured on horizontal axis.
(b) But when “supply increases and demand also increases but at a much faster rate” then,
(i) Equilibrium price rises from OP to OP₁ and
(ii) Equilibrium quantity also rises from OQ to OQ₁.
Case II: Both Demand and Supply Decreases: When both demand and supply decreases, then there are three possibilities:
Case A: When Demand and Supply both Decrease at the Same Rate
1. When demand and supply both decrease at the same rate, equilibrium price remains constant and equilibrium quantity falls as shown below:
You Must Know
When demand and supply both decrease at the same rate, equilibrium price remains constant.
Logic
Suppose demand and supply both decrease by 5%, then there is neither excess demand nor excess supply, i.e., why price remains constant.

2. We assume that initial price is OP and equilibrium quantity is OQ as shown above:
(a) In the above diagram price is measured on vertical axis and quantity demanded and supplied is measured on horizontal axis.
(b) But when “demand and supply both decrease at the same rate” then,
(i) Equilibrium price remains constant at OP₁ and
(ii) Equilibrium quantity falls from OQ to OQ_1.
Case B : When demand decreases, supply also decreases but at a much faster rate
l. When demand decreases, supply also decreases but at a much faster rate, then equilibrium price rises and equilibrium quantity falls as shown below:

2. We assume that initial price is OP and equilibrium quantity is OQ as shown above:
(a) In the above diagram price is measured on vertical axis and quantity demanded and supplied is measured on horizontal axis.
(b) But when “demand decreases, supply also decreases but at a much faster rate” then,
(i) Equilibrium price rises from OP to OP₁ and
(ii) Equilibrium quantity falls from OQ to OQ₁.
Case III: When supply decreases, demand also decreases but at a must faster rate
l.When supply decreases, demand also decreases but at a much faster rate, then equilibrium price and equilibrium quantity both falls as shown below:

2. We assume that initial price is OP and equilibrium quantity is OQ as shown above:
(a) In the above diagram price is measured on vertical axis and quantity demanded and supplied is measured on horizontal axis.
(b) But when “supply decreases, demand also decreases but at a much faster rate” then,
(i) Equilibrium price falls from OP to OP₁ and
(ii) Equilibrium quantity falls from OQ to OQ₁
Shift in Demand and Supply in Opposite Direction
Case I: When demand increases and supply decreases at the same rate
1. When demand increases and supply decreases but at the same rate, then equilibrium price rises and equilibrium quantity remains constant as shown below:

2. We assume that initial price is OP and equilibrium quantity is OQ as shown above:
(a) In the above diagram price is measured on vertical axis and quantity demanded and supplied is measured on horizontal axis.
(b) But when, “demand increase and supply decreases but at the same rate”, then,
(i) Equilibrium price rises from OP to OP₁ and
(ii) Equilibrium quantity remains constant at OQ.
Case II: When demand decreases and supply increases at the same rate
1. When demand decrease and supply increases but at the same rate, then equilibrium price falls and equilibrium quantity remains constant as shown below:

2. We assume that initial price is OP and equilibrium quantity is OQ as shown above: (a): In the above diagram price is measured on vertical axis and quantity demanded and supplied are measured on horizontal axis.
(b) But when , “demand decreases and supply increases but at the same rate”, then, (i) Equilibrium price falls from OP to OP₁ and (ii) Equilibrium quantity remains constant at OQ.
Viable Industry and Non-Viable Industry
1. Viable industry refers to an industry for which supply curve and demand curve intersect each other in positive axes.

2. Non-viable industry refers to an industry for which supply curve and demand curve never intersect each other in the positive axes. In India, commercial aircraft is an example of a non-viable industry. It means, aircraft cannot be produced at all. Note that an industry which is non-viable in one country may be viable for another country. For instance, commercial aircraft are produced in countries like USA, UK, France etc.

Simple Applications Of Tools Of Demand And Supply

Price Ceiling (Maximum Price Ceiling)
1. When the government imposes upper limit on the price (maximum price) of a good or service which is lower than equilibrium price is called price ceiling.

2. Price ceiling is generally imposed on necessary items like wheat, rice, kerosene etc.
3. It can be explained with the help of given diagram:
(a) In the given diagram, DD is the market demand curve and SS is the market supply curve of Wheat.
(b) Suppose, equilibrium price OP is very high for many individuals and they are unable to afford at this price.
(c) As wheat is necessary product, government has to intervene and impose price ceiling of Pt, which is below the equilibrium level.
(d) When the government fixes the price of a commodity at a level lower than the equilibrium price (say it fixes the price at OP₁, there would be a shortage of the commodity in the market. Because at this price demand exceeds supply. Quantity demanded is P₁S, while quantity supplied is only P₁R. There is, thus, a shortage of RS quantity at this price (i.e., OP₁). In free market, this excess demand of RS would have raised the price to the equilibrium level of OP. But, under government price-control consumers’ demand would remain unsatisfied.
(e) Though the intension of the government was to help the consumers, it would end up creating shortage of wheat.
(f) To meet this excess demand, government may use Rationing system.
(g) Under rationing system, a certain part of demand of the consumers is met at a price lower than the equilibrium price. Under this system, consumers are given ration coupons/ Cards to buy an essential commodities at a price lower than the equilibrium price from Fair price/Ration Shop.
(h) Rationing system can create the problem of black market, under which the commodity is bought and sold at a price higher than the maximum price fixed by the government.
Price Floor (Minimum Price Ceiling)
1. When the government imposes lower limit on the price (minimum price) that may be charged for a good or service which is higher than equilibrium price is called price floor.
2. Price Floor is generally imposed on agricultural price support programmes and the
minimum wage legislation.
(a) Agricultural price support programmes: Through an agricultural price support programme, the government imposes a lower limit on the purchase price for some of the agricultural goods and the floor is normally set at a level higher than the market—determined price for these good.
(b) Minimum wage legislation: Through the minimum wage legislation, the government ensures that the wage rate of the labourers does not fall below a particular level and here again the minimum wage rate is set above the equilibrium wage rate.
3. It can be explained with the help of given diagram:
(a) In the given diagram, DD is the market demand curve and SS is the market supply curve of Wheat.
(b) Suppose, equilibrium price OP is not so profitable for farmers, who have suppose just faced Drought.

(c) To help farmers government must intervene and impose price floor of P₁; which is above than equilibrium price.
(d) Since, the price P₁ is above the equilibrium price P₁ the quantity supplied P₁B exceeds the quantity Quantity Demanded and demanded P₁A. There is excess supply. Supplied of Wheat
(e) In case of excess supply, farmers of these commodities need not sell at prices lower than the minimum price fixed by the government.
(f) The surplus quantity will be purchased by the government. If the government does not procure the excess supply, competition among its sellers would bring down the price to the level of equilibrium price.

Words that Matter

1. Market equilibrium: It refers to the situation when market demand is equal to the market supply.
2. Equilibrium price: The price at which equilibrium is reached is called equilibrium price.
3. Equilibrium quantity: The quantity bought and sold at the equilibrium price is called equilibrium quantity.
4. Equilibrium point: Equilibrium point is the point of intersection of the demand curve and supply of commodity.
5. Viable industry: It refers to an industry for which supply curve and demand curve intersect each other in positive axes.
6. Non-viable industry: It refers to an industry for which supply curve and demand curve never intersect each other in the positive axis.
7. Price ceiling: When the government imposed upper limit on the price (maximum price) of a good or service which is lower than equilibrium price is called price ceiling.
8. Price floor: When the government imposed lower limit on the price (minimum price) that may be charged for a good or service which is higher than equilibrium price is called price floor.
9. Rationing: Under rationing system, a certain part of demand of the consumers is met at a price lower than the equilibrium price. Under this system, consumers are given ration coupons/ Cards to buy an essential commodities at a price lower than the equilibrium price from Fair price/Ration Shop.
10. Black market: It is a market under which the commodity is bought and sold at a price higher than the maximum price fixed by the government.