Joining Derivatives and Optimization: An Ideal Partnership

Chapter 2: Supply and Demand: You Have What Consumers Want

Determining Equilibrium: Minding Your P’s and Q’s

Business executives face a dilemma: Customers want low prices, and executives want high prices. Markets resolve this dilemma by reaching a compromise price. The compromise price is the one that makes quantity demanded equal to quantity supplied. At that price, every customer who is willing and able to buy the good can do so. And every business executive who wants to sell the good at that price can sell it.

The price that makes quantity demanded equal to quantity supplied is called the equilibrium price. It occurs where the demand and supply curves intersect.

Figure 2-5 illustrates the equilibrium price for dog treats — the point where the demand and supply curve intersect corresponds to a price of $2.00. At this price, the quantity demanded (determined off of the demand curve) is 200 boxes of treats per week, and the quantity supplied (determined from the supply curve) is 200 boxes per week. Quantity demanded equals quantity supplied.

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Figure 2-5:

Determining the equilibrium price and quantity.

Determining the price mathematically

You can also determine the equilibrium price mathematically. In order to determine equilibrium mathematically, remember that quantity demanded must equal quantity supplied.