Explain how the price mechanism brings about the equilibrium price and also how and why the government would intervene in the market place.

Market equilibrium is a situation where at a certain price level, the quantity supplied by producer and the quantity demanded by consumers are equal. It is a situation where there is no tendency for change in either price of product or quantity supplied and demanded. This situation is brought about by forces of the price mechanism, the interplay of demand and supply market forces.

The situation of market equilibrium is represented by the above figure. Where the two curves of demand and supply intersect at Pe, the equilibrium price Pe and the equilibrium quantity Qe is established. Any other price level other than that of Pe would result in either excess supply or excess demand, which would then lead to the price mechanism equilibrating the market again through interaction between forces of supply and demand.

At price level OP1, the quantity demanded is OQ2, which exceeds the quantity supplied OQ1.

price of market balance

English: Supply and demand market curves

Equilibrium

This means that there is excess demand in the market, because not enough of the product is supplied to consumers to satiate demand. In this situation, the quantity that the consumers demand exceeds the quantity supplied, and so it would be expected that this would put pressure on the price of the commodity to go up. This upward pressure arises from the limited quantity of supply available to consumers, and so they bid up the price in an attempt to secure the limited quantity of the product. The law of supply states that as the price goes up, the quantity supplied will also increase. So the S curve in the figure would experience an expansion, pushing it towards the right as the price goes up. The law of demand states, however, that when price goes up, the quantity demanded goes down. The D curve experiences a contraction as the price...