Market Equilibrium — Price Determination

Demand and supply are studied separately, but in a real market it is the interaction of BOTH forces together that fixes the price actually paid and the quantity actually bought and sold — neither side determines price alone.

Equilibrium price is the price at which the quantity demanded exactly equals the quantity supplied — the demand curve and the supply curve intersect at this point. The corresponding quantity is the equilibrium quantity. Because the demand curve slopes downward and the supply curve slopes upward, under normal conditions they intersect at exactly one point.

What happens away from equilibrium?

• If price is set above equilibrium, quantity supplied exceeds quantity demanded — a surplus (excess supply) results. Unsold stock accumulates, pushing sellers to cut price, which raises quantity demanded and lowers quantity supplied until the surplus disappears at the equilibrium price.
• If price is set below equilibrium, quantity demanded exceeds quantity supplied — a shortage (excess demand) results. Buyers compete for the limited stock, bidding price up, which lowers quantity demanded and raises quantity supplied until the shortage disappears at the equilibrium price. …