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To figure out what economic shortages and surpluses are, we must start with the effects of supply and demand. Yes, I'm referring to supply and demand, but contrary to what most remember from their economics class in high school, not everything in economics has to do with supply and demand. In this particular case, though, we must go back to supply and demand. It's not going to be that bad though, I promise. You won't even need coffee to stay awake for it.

A supply and demand graph has two intersecting lines (usually curved lines, but for simplicity we'll imagine two straight lines forming an X) where the demand line decreases left to right and the supply line increases from left to right. To put it simply, in the supply/demand X, the demand line is \ and the supply line is /.

Where the two lines intersect is known as the market clearing condition where the optimal price (“market clearing price”) and optimal quantity (“market clearing quantity”) are reached. Simply put: both producers and consumers are theoretically at their happiest when it comes to how much is supplied and how much is demanded.

An economic surplus occurs when the price is above the market clearing price. We've all been there: you go to the store to buy a product and see a ton of product on the shelves. You look at the price and say to yourself, “whoa, that's too much!” Just because the price is “too high” doesn't mean no one is willing to purchase it. It just means as the price increases, fewer and fewer consumers are interested in purchasing the product. To solve this problem, companies then reduce the price to increase sales and determine the market clearing price.

The opposite is true for economic shortages. If a price is “too low” (i.e. below market clearing price) then more people are interested in purchasing it. No doubt you have seen this as well, when you find out, for example, that your favorite cereal is dirt cheap at the grocery store and when you go to purchase some, you find the shelf is empty. The cheaper the price goes, the more people are likely to purchase. In this case, a company will raise prices in order to reduce sales and reach the market clearing price.

As you can imagine, there's no easy way to find the market clearing condition. Businesses track their sales very closely to ensure the price is not too high or too low since either one can result in potentially lost revenues. On the other hand, some businesses purposely create shortages in order to boost demand for products (e.g. Apple Inc.) because they know when their product is in demand, they can require a higher price. Most businesses do not do this, however, since purposely leaving the price low in order to create demand only works if you have a rare product (such as an iPhone). If you sell toilet paper or bread for instance, there is too much competition to warrant creating a shortage on purpose. To do so would just mean lost sales and possibly going out of business.

There's plenty more to say about shortages and surpluses, but that covers the basics. To go deeper into it will require graphs, more economic terms, and perhaps a little caffeine. The important thing to remember is that an economic surplus means excessive supply and results in decreasing prices, while an economic shortage means excessive demand and will result in increasing prices.

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