Market Equilibrium: Real-world Situations (Edexcel IGCSE Economics)

Real World Example: Changes to Demand That Increase Price

• Real world markets are constantly changing and are referred to as dynamic markets

• Market equilibrium can change every few minutes in some markets (e.g. stocks and shares), or every few weeks or months in others (e.g clothing)

•  Any change to a non-price determinant of demand or supply will temporarily create disequilibrium and market forces will then seek to clear the excess demand or supply

• During lock downs associated with the Covid-19 pandemic, furniture retailers experienced unexpectedly high demand for their products (especially desks and sofas)

Diagram: Increase in Demand for Desks

An increase in demand for desks due to a temporary change in tastes/fashions

Diagram analysis

• Due to the Covid mandated change of working from home, consumers experienced a temporary change in taste as they sought to set up comfortable home offices

  • This led to an increase in demand for desks from D₁ → D₂ 

• At the original market clearing price of P₁, a condition of excess demand now exists

  • The demand for desks is greater than the supply 

• In response, suppliers raise prices

  • This causes a contraction of demand and an extension of supply leading to a new market equilibrium at P₂Q₂

  • Both the equilibrium price (P₂) and the equilibrium quantity (Q₂) are higher than before

  • The excess demand in the market has been cleared

Real World Example: Changes to Supply That Increase Price

• In September 2022, Hurricane Fiona destroyed much of Puerto Rico's crop of plantains (a necessity in the diet of local people)

Diagram: Decrease in Supply

Decrease in supply of plantains in Puerto Rico due to a supply shock caused by Hurricane Fiona

Diagram analysis

• Due to Hurricane Fiona, Puerto Rico is experiencing a supply shock in its plantain market

  • This causes a decrease in supply of S₁ → S₂

• At the original market clearing price of P₁, a condition of excess demand now exists (shortage)

  • The demand for plantain is greater than the supply

• In response, sellers in Puerto Rico raised prices

  • This causes a contraction of demand and an extension of supply, leading to a new market equilibrium at P₂Q₂

  • The equilibrium price (P₂) is higher and the equilibrium quantity (Q₂) is lower than before

  • The excess demand in the market has been cleared

Real World Example: Changes to Demand That Decrease Price

• Demand for lobsters in Maine, USA has been falling steadily in recent months

• This has resulted in a price fall from $12.35 /pound on the 1st April to $9.35 /pound on the 1st May

Diagram: Decrease in Demand

Decrease in demand for lobsters due to a decrease in real income

Diagram analysis

• In recent months, the USA has been experiencing an increasing rate of inflation

  • Inflation lowers the purchasing power of money in a consumer's pocket and so effectively reduces their real income

  • With reduced real income, fewer luxuries are consumed

  • This led to a decrease in demand for lobsters from D₁ → D₂

• At the original market clearing price of P₁, a condition of excess supply now exists

  • The demand for lobsters is less than the supply 

• In response, suppliers gradually reduce prices

  • This causes a contraction of supply and an extension of demand leading to a new market equilibrium at P₂Q₂

  • Both the equilibrium price (P₂) & the equilibrium quantity (Q₂) are lower than before

  • The excess supply in the market has been cleared

Real World Example: Changes to Supply That Decrease Price

• In order to help meet their climate targets and lower energy costs for households, the EU is providing subsidies for solar panels 

Diagram: Increase in Supply

Increase in supply of solar panels in the EU due to a per unit subsidy

Diagram analysis

• To help meet its climate change targets and lower household energy bills the EU has provided a subsidy to solar panel retailers

  • This causes an increase in supply of S₁ → S₂

• At the original market clearing price of P₁, a condition of excess supply now exists (surplus)

  • The supply of solar panels is greater than the demand 

• In response, sellers in the EU lower prices

  • This causes an extension of demand and a contraction of supply leading to a new market equilibrium at P₂Q₂

  • The equilibrium price (P₂) is lower, and the equilibrium quantity (Q₂) is higher than before

  • The excess supply in the market has been cleared