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Definition of Equilibrium

Equilibrium Image 1


A position in which there is no pressure for change, where demand and supply are equal.

Related Terms:

Equilibrium market price of risk

The slope of the capital market line (CML). Since the CML represents the
return offered to compensate for a perceived level of risk, each point on the line is a balanced market
condition, or equilibrium. The slope of the line determines the additional return needed to compensate for a
unit change in risk.

Equilibrium rate of interest

The interest rate that clears the market. Also called the market-clearing interest


The absence of equilibrium. Disequilibrium implies excess demand or excess supply and pressure for change.

Efficient Market Hypothesis

In general the hypothesis states that all relevant information is fully and
immediately reflected in a security's market price thereby assuming that an investor will obtain an equilibrium
rate of return. In other words, an investor should not expect to earn an abnormal return (above the market
return) through either technical analysis or fundamental analysis. Three forms of efficient market hypothesis
exist: weak form (stock prices reflect all information of past prices), semi-strong form (stock prices reflect all
publicly available information) and strong form (stock prices reflect all relevant information including insider

Fair price

The equilibrium price for futures contracts. Also called the theoretical futures price, which equals
the spot price continuously compounded at the cost of carry rate for some time interval.

Market clearing

Total demand for loans by borrowers equals total supply of loans from lenders. The market,
any market, clears at the equilibrium rate of interest or price.

Purchasing power parity

The notion that the ratio between domestic and foreign price levels should equal
the equilibrium exchange rate between domestic and foreign currencies.

Equilibrium Image 2

Security market line

Line representing the relationship between expected return and market risk.
Security market plane A plane that shows the equilibrium between expected return and the beta coefficient
of more than one factor.
Security selection
See: security selection decision.

Theoretical futures price

Also called the fair price, the equilibrium futures price.

Capital Asset Pricing Model (CAPM)

A model for estimating equilibrium rates of return and values of
assets in financial markets; uses beta as a measure of asset risk
relative to market risk

Security Market Line

A graph illustrating the equilibrium relationship between the
expected rate of return on securities and their risk as measured by
the beta coefficient

Aggregate Demand Curve

Combinations of the price level and income for which the goods and services market is in equilibrium, or for which both the goods and services market and the money market are in equilibrium.

Aggregate Supply Curve

Combinations of price level and income for which the labor market is in equilibrium. The short-run aggregate supply curve incorporates information and price/wage inflexibilities in the labor market, whereas the long-run aggregate supply curve does not.

45-Degree Line

A line representing equilibrium in the goods and services market, on a diagram with aggregate demand on the vertical axis and aggregate supply on the horizontal axis.


Change in the equilibrium value of a variable of interest per change in a variable over which one has control. "The" multiplier is the change in equilibrium income per change in government spending.

Natural Rate of Unemployment (NRU)

The level of unemployment characterizing the economy in long-run equilibrium, determined by the levels of frictional, structural, and institutionally induced unemployment. At this rate of unemployment, inflation should be constant, so it is sometimes called the nonaccelerating inflation rate of unemployment, or NAIRU.

Equilibrium Image 3

Efficient Markets Hypothesis

The hypothesis that securities are typically in equilibrium--that they are fairly priced in the sense that the price reflects all publicly available information on the security.







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