8 - Equilibrium and exchange

Summary

Introduction

Having presented the main elements of production theory and the theory of consumer behaviour, we are now in a position to bring together these two segments of the market in order to analyse the determination of market prices and quantities exchanged. The principles discussed in this chapter are important for a number of reasons. Firstly, the interactions of supply and demand forces are the cornerstone of the neoclassical approach to economic analysis. Secondly, in some quarters (e.g. the World Bank and IMF) more emphasis is being placed on the role of the marketplace in the allocation of resources in the agricultural and other sectors of the developing economy. Finally, a number of concerns of development economists centre on the functioning of agricultural commodity markets. Specifically, it is noted that prices of some agricultural products are highly variable in the short run and that this price instability may discourage investment and may induce income instability for producers. Moreover, over the longer term, agricultural prices may decline relative to other product prices.

A large portion of this chapter will be concerned with the theoretical analysis of competitive markets. (Some features of imperfect markets and some more practical aspects of agricultural markets are considered in the next chapter.) We begin by defining the concept of market equilibrium which is determined at a market price at which the desires of consumers and those of producers are equally balanced. Much of economic analysis of markets focuses on market equilibrium or changes in market equilibrium. However we feel it should be indicated at the outset that there may be problems concerning the existence of equilibrium, its uniqueness and its stability.