Disequilibrium

Disequilibrium: Causes, Market Effects, and Examples

Key takeaways
* Disequilibrium occurs when supply and demand are mismatched, producing shortages or surpluses and moving a market away from its equilibrium (market‑clearing) price.
* Causes include sticky prices, government price controls, labor market rules, balance‑of‑payments imbalances, exchange‑rate shifts, and shocks amplified by automated trading.
* Market forces (price adjustments, arbitrage, production changes) or policy actions typically restore equilibrium; sometimes structural changes (training, innovation, regulation) are required.
* Flash crashes and persistent current‑account deficits/surpluses illustrate short‑term and systemic disequilibrium respectively.

What disequilibrium means
Markets are in equilibrium when the quantity supplied equals the quantity demanded at a single market‑clearing price, so there are no persistent shortages or surpluses. Disequilibrium arises whenever factors prevent prices or quantities from adjusting to that balance. Economists—starting from John Maynard Keynes—often note that real markets frequently sit in some state of disequilibrium because many variables affect prices and output.

How disequilibrium develops
Any change that prevents the normal price–quantity adjustment can cause disequilibrium, for example:
* Sticky prices: suppliers or contracts hold prices fixed for some period. If demand rises, the fixed price causes shortages; if demand falls, it causes surpluses.
* Government intervention: price ceilings (rent control) or floors (minimum wage) can create excess demand or supply when set away from the market equilibrium.
* Labor market frictions: mismatches in skills, geographic immobility, or wage regulations can produce unemployment or labor shortages.
* Balance of payments imbalances: a persistent current‑account deficit (imports > exports) or surplus (exports > imports) signals disequilibrium at the national level.
* Exchange‑rate shifts, inflation/deflation, changes in reserves, population growth, or political instability.

Simple market example (wheat)
* At the equilibrium price, farmers’ willingness to sell equals consumers’ willingness to buy.
* If price rises above equilibrium, quantity supplied increases while quantity demanded falls → surplus. Suppliers lower prices to clear excess stock, pushing the market back toward equilibrium.
* If price falls below equilibrium, quantity demanded exceeds quantity supplied → shortage. Scarcity drives prices up until supply and demand balance again.

How disequilibrium is resolved
* Market adjustments: prices change, firms alter production, and arbitrage opportunities attract traders who restore balance.
* Structural responses: retraining workers, investing in production efficiency, improving supply chains, or innovating to reduce costs can create a new, sustainable equilibrium.
* Policy tools: when markets fail to self‑correct or adjustment is socially costly, governments may use targeted policies (subsidies, public investment, regulatory reforms) to ease transition.

Real‑world illustration: the 2010 flash crash
Flash crashes are rapid, severe price dislocations where sell pressure clears available bids and prices plunge before recovering. On May 6, 2010, the Dow fell more than 1,000 points in minutes, partly driven by a very large sell order in E‑mini S&P futures and exacerbated by automated trading systems. The event showed how a single disruptive order plus algorithmic responses can create temporary but extreme disequilibrium.

Frequently asked questions
What happens when disequilibrium persists?
Sustained disequilibrium can distort resource allocation, depress investment, raise unemployment, and slow economic growth. Prices can become artificially high or low until corrective forces act.

What typically causes disequilibrium?
Imbalances between supply and demand—triggered by policy constraints, market frictions, shocks to production or consumption, or cross‑market spillovers (e.g., logistics or input shortages).

How can disequilibrium be prevented or reduced?
Reducing market frictions, improving information flow, liberalizing trade where appropriate, strengthening market infrastructure (e.g., circuit breakers for trading), and tailoring policy to address structural mismatches can help keep markets closer to equilibrium.

Further reading
* International Monetary Fund — Keynesian and macroeconomic resources
World Bank — Current account balance data
U.S. Securities and Exchange Commission — Report on the May 6, 2010 market events