Market equilibrium is where supply meets demand, maximizing social surplus. This sweet spot balances consumer and producer interests, leading to efficient resource allocation. It's the economic Goldilocks zone.

Price controls like ceilings and floors mess with this balance. They create shortages or surpluses, reducing overall economic efficiency. The resulting deadweight loss represents value that vanishes into thin air, benefiting no one.

Market Equilibrium and Efficiency

Surplus interaction in market equilibrium

• Consumer surplus
  • Difference between maximum price consumer willing to pay and actual price paid
  • Area below demand curve and above equilibrium price (shaded triangle on demand curve graph)
• Producer surplus
  • Difference between minimum price producer willing to accept and actual price received
  • Area above supply curve and below equilibrium price (shaded triangle on supply curve graph)
• Social surplus
  • Sum of consumer surplus and producer surplus
  • Maximized at market equilibrium where demand and supply curves intersect (total shaded area on market equilibrium graph)
• Market equilibrium
  • Point where quantity demanded equals quantity supplied (intersection of demand and supply curves)
  • Maximizes social surplus leading to allocative efficiency (optimal distribution of resources)
  • Reflects the interaction of market forces (supply and demand)

Economic impacts of price controls

• Price ceilings
  • Legally mandated maximum price set below market equilibrium price (rent control)
  • Causes shortage as quantity demanded exceeds quantity supplied (housing shortages in cities with rent control)
  • Reduces producer surplus and may reduce consumer surplus
  • Creates deadweight loss reducing social surplus and market efficiency (shaded triangle on price ceiling graph)
• Price floors
  • Legally mandated minimum price set above market equilibrium price (minimum wage)
  • Causes surplus as quantity supplied exceeds quantity demanded (unemployment among low-skilled workers)
  • Reduces consumer surplus and may reduce producer surplus
  • Creates deadweight loss reducing social surplus and market efficiency (shaded triangle on price floor graph)
• Deadweight loss
  • Reduction in social surplus caused by market inefficiencies
  • Occurs when market equilibrium distorted by price controls or other factors (taxes, subsidies)
  • Net loss to society as loss in surplus not transferred to any party (shaded triangle on deadweight loss graph)
  • Represents a decrease in economic efficiency

Demand and supply in equilibrium

• Demand
  • Relationship between price of good and quantity consumers willing and able to purchase
  • Downward-sloping curve showing inverse relationship between price and quantity demanded (demand curve graph)
• Supply
  • Relationship between price of good and quantity producers willing and able to sell
  • Upward-sloping curve showing direct relationship between price and quantity supplied (supply curve graph)
• Market equilibrium
  • Achieved when quantity demanded equals quantity supplied
  • Occurs at intersection of demand and supply curves (market equilibrium graph)
  • Equilibrium price is price at which quantity demanded equals quantity supplied ($P_e$ on graph)
  • Equilibrium quantity is quantity bought and sold at equilibrium price ($Q_e$ on graph)
• Shifts in demand and supply
  1. Changes in factors other than price cause demand or supply curve to shift (income, preferences, input prices)
  2. Shifts in demand or supply curves lead to new market equilibrium price and quantity (shift in demand or supply graph)
  3. Elasticity measures the responsiveness of quantity demanded or supplied to changes in price or other factors

Scarcity and Economic Decision-Making

• Scarcity: The fundamental economic problem of limited resources and unlimited wants
• Opportunity cost: The value of the next best alternative foregone when making a choice
• Marginal analysis: Evaluating the costs and benefits of small changes in economic decisions