Compare quantities at the current price first.
Equilibrium is where quantity demanded equals quantity supplied. Below the equilibrium price, excess demand creates a shortage; above it, excess supply creates a surplus. In this competitive model with flexible prices, these gaps put pressure on price to adjust. The changing price signals relative scarcity, gives producers an incentive to respond and rations the available output among buyers willing and able to pay.
- Equilibrium
- At the equilibrium price, the quantity buyers want equals the quantity sellers offer. There is no shortage or excess supply putting pressure on price while the curves stay unchanged.
- Shortage: quantity demanded is greater
- Buyers want more than sellers offer at that price. Competition for the available units puts upward pressure on price; quantity demanded falls and quantity supplied rises along the curves.
- Surplus: quantity supplied is greater
- Sellers offer more than buyers want, leaving units unsold. Sellers have a reason to cut prices; quantity demanded then rises and quantity supplied falls. This adjustment assumes prices can change freely.
Worked example: More buyers than available lunches
At $4 per lunch, buyers demand 120 lunches a day and sellers offer 80. At $5, both quantities are 100. Demand and supply curves stay unchanged.
- At $4, the shortage is 120 - 80 = 40 lunches a day.
- Excess demand puts upward pressure on price as buyers compete for the available lunches and sellers can ask more.
- As price rises, quantity demanded contracts and quantity supplied extends along their existing curves.
- At $5, both equal 100. The shortage disappears; with unchanged curves there is no further pressure from excess demand or supply.
Watch out for this
The shortage makes demand fall and supply rise.
The price adjustment changes quantities along the curves. Neither curve shifts unless another determinant changes.
Check your understanding
At the current price, sellers offer 150 units and buyers demand 90. Assume prices can adjust and no other factor changes. What happens next?
- A surplus of 60 puts downward pressure on price.
- A shortage of 60 puts upward pressure on price.
- A surplus of 240 means both curves must shift.