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Partial equilibrium is an economic theory used for analyzing very small markets or individual products. This theory requires economists to ignore all markets outside of the one being studied, and to assume that changes in that particular market will have no effect outside of that market, and vice versa. Partial equilibrium theory provides a useful model for research and analysis, but does not generally prove effective in real-world scenarios. For broader studies into the market as a whole, economists rely on the broader concept of general equilibrium, which examines how changes in each market influence events in related markets.
The first general equilibrium models were developed by French economist Leon Walras during the 1870s. It wasn't until the 1920s and 30s that economists attempted to study markets in isolation using partial equilibrium models. Frenchman Antoine Cournot and Englishman Alfred Marshall are generally credited as the first economists to publish theories on partial equilibrium analysis.
A market is said to be in equilibrium when demand meets supply. This occurs when manufacturers find the equilibrium price point for each product. Since consumers only have a limited amount of income, price changes for one product could impact how much money they have left to spend on other products, which could influence demand and supply. Partial equilibrium models ignore this concept, and assume that changes in an individual market have no influence on other products or markets.
This theory can be most effectively applied to very small markets or products. For example, this model could be used to help a small-town bread maker determine the equilibrium price point for his product by balancing supply and demand. This example fits this model because it involves a very small market compared to the overall economy, and also because it doesn't involve any limited resources. In most cases, a small baker who increases production or changes his prices will have little impact on other markets, or on the availability of flour and other ingredients. Using partial equilibrium theories, this same baker could have a tremendous impact on his own profits by finding the price point where supply and demand are equal.
General equilibrium theory, on the other hand, helps economists determine the price point at which supply and demand are balanced across all markets and products. This model accepts that for most products, a change by one manufacturer will impact a large volume of other markets. For example, if a baker who supplied bread to stores across the country decided to halve his production rates, that nation's supply of bread could be insufficient to meet demand. Prices for bread would increase, and consumers would have less money to spend on other goods. This could impact prices and production rates for all types of consumer goods.
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