Market Equilibrium Applications

Introduction: What is Market Equilibrium?

Market equilibrium is a condition of the market where the demand and supply balance each other. Usually, during times of over-supply, the prices go down which increases the demand. In the case of over-demand, the prices increase which diminishes the demand.

The equilibrium price is the price at which supply meets the demand in a market. The periodic consolidation of an index or its sideways momentum shows market equilibrium over a certain period of time.

The prices of a product in a market often hover over the equilibrium price level. When the prices go too down, buyers buy products more than usual while in the case of a price rise, the buyers buy less, and hence price comes down.

Applications of Market Equilibrium

Usually, market equilibrium is expressed in terms of price. The price at which the demand and supply of a market meet are known as the equilibrium price. There are at least two applications that can be easily identified for market equilibrium price. The applications are very important and hence we can understand that market equilibrium is a very important concept in economics.

Price Ceiling

• Indispensable items − There are some items in the market that are indispensable for living life for everyone regardless of the economic conditions of people. For example, items like rice, wheat, kerosene, etc. are very essential for people. If these items are allowed to be traded freely, their price would rise to maximum limits which will make them unaffordable for economically deprived people. Such situations can occur more in developing and poor nations than in developed ones. Therefore, countries like India need to fix a maximum limit on the prices of these essential items. However, there must be a price at which the comparison should be made to decide the price of these items.

  In such situations, the comparison of prices is made with the equilibrium price and the price of items is fixed below the market equilibrium price. This is done because if the market decided cost price is accepted many people won’t be able to afford the items. This fixation of the price at a lower price is known as the price ceiling.

• Items selling by Government through special channels − Governments usually sell the items on which the price ceiling is applied through special channels. For example, in India, these items are sold via ration shops where the prices of these items are kept lower than the market-decided price. This helps economically challenged people access highly essential items at a price that is affordable for all.

• Market pricing of essential items − Market equilibrium helps in deciding the market price of essential items. The market equilibrium price is the price at which the essential items would sell if they are allowed to be traded freely in the market. In most cases, this price is above the price fixed after applying the price ceiling. Therefore, governments need to intervene in the process and reduce the prices so that everyone can afford the items.

  Market equilibrium is important in the case of a price ceiling because it shows the market price of the essential items. When the market equilibrium price is higher than the affordable limit, a price ceiling is applied. Therefore, we need to depend on the market equilibrium factor to decide the price ceiling of items.

Price floor

A price floor is the opposite of a price ceiling. In some cases of commodities, going below a certain limit of price may harm the producers of some items. For example, farmers of some items may find it hard to make a living if the price of some items they cultivate goes below a certain limit. In such cases, the prices of some items need to be fixed above the market-set prices. This phenomenon of deciding prices above the market- decided limit is known as price flooring.

• Economic condition − Although the price floor and price ceiling are opposite in nature, the intent for applying them is almost the same. In the case of a price ceiling, generally, economically deprived people are considered while in the case of a price floor, economically deprived farmers and producers are considered.

• Market floor − Like in the case of price ceilings, market equilibrium plays a role in the market floor too. Market equilibrium price shows the price at which the market will deal with the items which are usually below the fixed price of the item in the case of a price floor. Therefore, the comparison of the price is made with the market equilibrium price

• Minimum wages − Another example of a price floor is the minimum wage applied to jobs by legislative measures. It makes sure that people get at least a minimum salary or wage so that they can meet the lifestyle requirements. In such cases, the wages are kept above the market minimum that is implied by equilibrium wages.

General Applications of Market Equilibrium

• We know that market equilibrium is generally the price setter. The price of an item in a market economy is set by the forces of demand and supply. The price of an item is found when the demand and supply balance each other. Therefore, in general, market equilibrium is the process by which the prices of items are obtained by producers.

• Apart from setting prices, market equilibrium also shows the amount of production necessary for a market. Producers usually want to know how many of their products would sell in the market and market equilibrium helps them assess the demands. Depending on the indicated demand of a market, producers can produce enough items to satisfy the consumers in a given market.

• Market equilibrium also helps in minimizing the wastage of resources. As producers have an idea of the condition and requirements of a market in advance, market equilibrium shows just what the limit of production producers must resort to. So, the limits of production save the waste of products to a large extent.

Conclusion

The applications of market equilibrium in setting price ceilings and price floors are indispensable in nature. These are a major part of welfare economics and they help society to offer certain advantages to the underprivileged in a wholesome manner. Without the concept of market equilibrium, it would be futile to think about the general welfare. So, understanding the applications of market equilibrium is useful for one and all.

FAQs

Q1. What is meant by price ceiling? Discuss briefly.

Ans. There are some items in the market that are indispensable for living life for everyone regardless of the economic conditions of people. For example, items like rice, wheat, kerosene, etc. are very essential for people. If these items are allowed to be traded freely, their price would rise to maximum limits which will make them unaffordable for economically deprived people. Therefore, a price below the market price is set for these items. This artificially set price is known as the price ceiling.

Q2. What is the price floor? Illustrate briefly.

Ans. A price floor is the opposite of a price ceiling. In some cases of commodities, going below a certain limit of price may harm the producers of some items. For example, farmers of some items may find it hard to make a living if the price of some items they cultivate goes below a certain limit. In such cases, the prices of some items need to be fixed above the market-set prices. This phenomenon of deciding prices above the market-decided limit is known as price flooring.

Q3. Give one general application of market equilibrium.

Ans. Market equilibrium is used to set the prices of items.