Question

If the price is above the equilibrium level, would you predict a surplus or a shortage? If the price is below the equilibrium level, would you predict a surplus or a shortage? Why?

Short answer

When the price is above the equilibrium level, we predict a surplus because the high price discourages buyers and encourages suppliers to produce more, leading to excess supply. Conversely, when the price is below the equilibrium level, we predict a shortage because the low price encourages buyers and discourages suppliers from producing more, leading to excess demand.

Step-by-step solution

Understanding Equilibrium Price

The equilibrium price, also referred to as the market-clearing price, is the price at which the quantity supplied and the quantity demanded for a product are equal. At this price, there is neither a surplus nor a shortage in the market.

Understanding Surplus and Shortage

A surplus is the situation in which the quantity supplied exceeds the quantity demanded at a given price, whereas a shortage is the situation where the quantity demanded exceeds the quantity supplied at a given price.

Determining Surplus or Shortage When Price is Above Equilibrium

When the price is above the equilibrium level, producers are willing to supply more of the product, but consumers are willing to purchase less. This leads to an excess supply in the market, which is known as a surplus. The reason for this surplus is that the high price discourages buyers, while it encourages suppliers to produce more, leading to an imbalance between supply and demand.

Determining Surplus or Shortage When Price is Below Equilibrium

When the price is below the equilibrium level, consumers are willing to purchase more of the product, but producers are willing to supply less. This leads to an excess demand in the market, which is known as a shortage. The reason for this shortage is that the low price encourages buyers, while it discourages suppliers from producing more, leading to an imbalance between supply and demand. To summarize: - If the price is above the equilibrium level, we predict a surplus. - If the price is below the equilibrium level, we predict a shortage.