Question

Explain with diagram the effect of time element on equilibrium price.

Hint:

The effect of time on equilibrium price reflects how the market responds to changes in supply and demand in the short and long term.

Answer 1

Step 1: Understanding the Time Element in Equilibrium Price:
The equilibrium price is the price at which the quantity demanded of a good equals the quantity supplied. However, the effect of time on equilibrium price is significant because in the short run, supply and demand can change at different rates, while in the long run, these forces can adjust more fully.
Step 2: Short-Term vs. Long-Term Effects:
- In the short term, the supply of goods is relatively inelastic as producers cannot immediately increase production to meet changes in demand. As a result, shifts in demand lead to more volatile price changes.
- In the long term, both supply and demand are more flexible, and the equilibrium price stabilizes as firms adjust their production levels to meet consumer demand.
Step 3: Diagram Explanation:
- In the short term, an increase in demand will lead to a rise in the equilibrium price, but the quantity supplied remains unchanged for a while.
- In the long term, as firms adjust, the supply curve shifts to meet the increased demand, which stabilizes the price. The diagram below shows the difference in equilibrium price in the short term and long term.
Step 4: Final Conclusion:
The time element in determining equilibrium price is crucial. Short-term changes in demand lead to immediate price fluctuations, while long-term adjustments allow the market to stabilize, reducing volatility.