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Question
What will happen if the price prevailing in the market is
(i) above the equilibrium price?
(ii) below the equilibrium price?
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Solution
(i) If the market price is above the equilibrium price, there occurs the situation of excess supply.
In the given figure, the equilibrium price and quantity is demoted by Pe and qe.
Let us assume that the market price (P1) is above the equilibrium price Pe. Now, according to the demand curve, the quantity demanded is qd. Whereas, according to the supply curve, the quantity supplied is qs. Thus, there exists a situation of excess supply equivalent to (qs − qd).
(ii) If the market price is below the equilibrium price, there occurs the situation of excess demand.
Let us assume that the market price P2 is below the equilibrium price Pe. According to the demand curve, quantity demanded is q′d. Whereas, according to the supply curve, the quantity supplied is q′s. So, it can be seen that there emerges the situation of excess supply equivalent to (q′d − q′s).
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