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Nice Price
Why did exchange prices of Sunscape Company's stock concentrate around
$15 per share? The answer is that this price was the only one that
balanced the market. Here's why.
A market exists whenever buyers and sellers exchange with one another.
But the amount sellers want to sell can be very different from the amount
buyers want to buy. In the game you played, only a price of $15 per
share balanced these two amounts.
The table below shows what was happening in the market for Sunscape
Company's stocks. The table shows what all the buyers' cards were
telling them to do. And it shows what all the sellers' cards were
telling them to do.
| Table 1 |
| Price Per Share |
Number of Shares Sellers
Want to Sell |
Number of Shares Buyers
Want to Buy |
| $25 |
26 |
0 |
| $20 |
22 |
6 |
| $15 |
14 |
14 |
| $10 |
6 |
22 |
| $5 |
0 |
26 |
Note: The equilibrium price is the only one at which buyers want to
buy the same number of shares that sellers want to sell. Here, a price
of $15 is the equilibrium price because it balances these two quantities at
14 shares.
How to Balance a Market
The numbers in Table 1 illustrate the laws of demand and supply.
Buyers and sellers of stocks behave the same way your class behaved as
buyers and sellers of car washing hours. Sellers offer more stocks for
sale at higher prices than at lower prices. In contrast, buyers want
to buy fewer stocks at higher prices than at lower prices.
For example, look at Table 1 to see what happens when the price is $25.
At this price, sellers want to sell 26 shares. But buyers do not want to buy
any shares at that price. So the market is unbalanced. A surplus
of 26 shares exists. This means sellers want to sell 26 more shares
than buyers want to buy at that price. Because of surplus, sellers
reduce their prices. Only by decreasing their prices to $15 per share
can they sell all the shares they want to sell.
On the other hand, the price can also be too low. Look what happens
when the price is $10 per share. Here too, the market is unbalanced.
A shortage of 16 shares exists. This means that buyers want to buy 16
more shares than sellers want to sell at that price. Because of the
shortage, buyers increase their prices. Only by increasing their
prices to $15 per share can they buy all the shares they want.
A price of $15 per share turns out to be a special price. It is
special because of what it does: It balances the number of shares that
buyers and sellers want to trade. Because of its special role in
balancing the share demanded and supplied, this price is called the
equilibrium price. It is the only price at which the shares demanded
and supplied are in equilibrium.
The Ups and Downs of Stock Prices
The game you played shows how buyers and sellers adjust their prices to
reach a balance, or equilibrium. But these balances seldom stay the same.
Demand and supply are continually changing, and buyers might want to buy
more at each possible price. If so, they bid the price up to a new
equilibrium. Or sellers might want to sell more at each possible
price. If so, they push the price down to a new equilibrium level.
So there is no mystery behind the ups and downs of prices for stocks - or
for other goods and services. Prices change because buyers and sellers
become more or less willing to buy or sell something. Then they work
out new equilibrium prices to balance the market- just as your class did for
Sunscape Company stocks.
Let's see how an equilibrium price can change. Suppose that
Sunscape Company suddenly develops a new product that is expected to be a
top seller. People expect the company's future profits to be higher,
so the stock becomes a better investment today. Because stockholders
expect to make even more money, they want to keep more shares of Sunscape
Company stocks for themselves. So they put fewer shares up for sale.
At the same time, buyers become more willing to buy the company's stock, so
they demand more of them.
For example, check Table 1. Assume that sellers now offer 4 fewer
shares at each of the prices shown in the table. Write the new number
of shares they now want to sell at each price in the appropriate blank in
table 2. The first two entries have been completed for you.
| Table 2 |
| Price Per Share |
Number of Shares Sellers
Want to Sell |
Number of Shares Buyers
Want to Buy |
| $25 |
|
12 |
| $20 |
|
18 |
| $15 |
|
|
| $10 |
2 |
|
| $5 |
0 |
|
Also assume that buyers want to buy 12 more shares at each of the prices
shown in Table 1. Write the new number of shares they now want to buy
at each price in the appropriate blank in Table 2. The first two
entries have been completed for you.
The table you just completed shows an increase in demand and a decrease
in supply. Demand has increased and supply has decreased because the
stock is now more attractive. Current owners want to hold on to more
shares. And other investors are more eager to buy some for themselves.
Questions
1. Both tables above illustrated the laws of demand and supply.
Breiefly explain how they illustrate these two laws.
2. Table 2 shows that demand and supply for Sunscape Company's
stocks have changed from what they were in Table 1. Because of these
changes, the stock's equilibrium price will also change. Table 2 shows
that the new equilibrium price is _________________.
3. Did the good news about Sunscape Company's future profits cause
the equilibrium price of a share of its stock to go up or down?
4. Suppose that sellers are asking $25 for their shares of stock.
At this price, how many shares do buyers want to buy?
5. How many shares do sellers want to sell at $25 per share?
6. At $25 per share, would a surplus or a shortage exist for
Sunscape Company's stock?
7. As a result, would sellers raise or lower their prices?
8. Suppose the stock's price is $5 per share. At this price,
how many shares do buyers want to buy?
9. How many shares do sellers want to sell at $5 per share?
10. At $5 per share, would there be a surplus or a shortage of shares in
Sunscape Company's stock?
11. As a result, would buyers raise or lower their prices? |
