Economic equilibrium

Definition

Economic equilibrium is a state in which market supply and demand balance each other, resulting in stable prices. In this state, there are no inherent forces causing the price or quantity of goods and services to change, allowing the market to operate efficiently. This concept is foundational in understanding how various economic theories, including those presented by influential economists, explain the functioning of economies.

5 Must Know Facts For Your Next Test

1. Economic equilibrium occurs at the intersection of the supply and demand curves, where the quantity demanded equals the quantity supplied.
2. In Keynesian economics, economic equilibrium can be disrupted by factors such as lack of aggregate demand, leading to unemployment and unused capacity.
3. Equilibrium can be affected by external shocks, government policies, and changes in consumer preferences, potentially leading to disequilibrium.
4. John Maynard Keynes argued that markets do not always self-correct quickly to return to equilibrium, necessitating government intervention during downturns.
5. The concept of equilibrium extends beyond price stability; it also encompasses the broader implications for employment levels and overall economic health.

Review Questions

• How does economic equilibrium relate to the concepts of supply and demand?
  • Economic equilibrium is intrinsically linked to supply and demand as it represents the point where these two forces balance each other. At this point, the quantity of goods that consumers wish to buy matches the quantity that producers are willing to sell, resulting in stable prices. Any deviation from this balance creates either a surplus or a shortage, prompting market adjustments until equilibrium is restored.
• Discuss how John Maynard Keynes' ideas challenge the notion of self-correcting markets towards economic equilibrium.
  • John Maynard Keynes challenged the traditional view that markets naturally return to equilibrium after disturbances. He posited that during economic downturns, particularly when aggregate demand is low, markets may remain in a state of disequilibrium for extended periods. This led him to advocate for government intervention through fiscal policies to stimulate demand and encourage a return to economic equilibrium.
• Evaluate the implications of persistent disequilibrium in an economy and how Keynesian economics addresses this issue.
  • Persistent disequilibrium can lead to significant economic problems such as high unemployment and underutilized resources. Keynesian economics addresses this issue by promoting active government intervention to manage economic fluctuations. By using tools like fiscal stimulus, governments can influence aggregate demand to help restore equilibrium, thereby mitigating the adverse effects of prolonged periods of imbalance and ensuring a more stable economic environment.

Related terms

Supply and Demand: The fundamental economic model that describes how prices are determined in a market economy based on the quantity of goods available and the desire of consumers to purchase them.

Market Equilibrium: The point at which the quantity of a good supplied equals the quantity demanded, leading to no excess supply or demand in the market.

Keynesian Economics: An economic theory that emphasizes the role of government intervention in stabilizing the economy, particularly during periods of recession, by influencing demand through fiscal and monetary policy.