What Is Long Run Equilibrium in Economics?
Gain insight into long run equilibrium: the theoretical state where economic forces achieve ultimate market balance.
Economic markets are dynamic systems where various forces interact, seeking balance. This state, known as equilibrium, represents a point where opposing economic pressures are offset, leading to stability. Among the foundational concepts in microeconomics, long run equilibrium illustrates how markets adjust over time to achieve lasting balance. Understanding this stability provides insight into how industries evolve and businesses operate under competitive conditions.
Defining Long Run Equilibrium
Long run equilibrium describes a market condition where all economic factors have fully adjusted, with no inherent tendency for change. In this context, the “long run” does not refer to a specific calendar period, but rather a conceptual timeframe where all factors of production are variable. This means businesses have sufficient time to alter all their inputs, including capital, labor, and technology, and can also decide to enter or exit an industry. All economic actors, from consumers to businesses, have optimized their positions given prevailing market conditions. Quantity demanded aligns with quantity supplied, and firms operate efficiently without pressure to expand or contract.
Distinguishing from Short Run Equilibrium
The “long run” in economics contrasts with the “short run,” a distinction based on the flexibility of production inputs. In the short run, at least one factor of production remains fixed, such as a company’s factory size or existing equipment. Businesses in the short run can only adjust variable inputs like labor or raw materials to increase or decrease output. A firm might increase car production by hiring more workers on an existing assembly line, but cannot immediately build a new plant to boost capacity.
Conversely, the long run is a period where all factors of production are variable, allowing complete flexibility. A company can build a larger factory, invest in new machinery, or exit an unprofitable market entirely. Therefore, short run equilibrium is a temporary state where firms operate within existing constraints, potentially earning economic profits or losses. Long run equilibrium, however, allows for full adjustment, eliminating temporary profits or losses through market dynamics.
Conditions for Long Run Equilibrium
For an industry or market to achieve long run equilibrium, particularly in a perfectly competitive environment, several conditions must be met. A primary condition is that firms earn zero economic profit. This differs from accounting profit, which only considers explicit costs like wages and rent. Economic profit, by contrast, also accounts for implicit costs, representing the opportunity cost of using resources. Zero economic profit signifies a firm’s total revenue precisely covers all explicit and implicit costs, meaning it earns just enough to stay in business.
Another condition is no incentive for new firms to enter or existing firms to exit. This stability links directly to the zero economic profit condition: positive profits attract new entrants, while losses cause existing firms to leave. Firms in long run equilibrium produce at the lowest possible average cost, indicating optimal production efficiency. Finally, the market must clear, meaning quantity demanded precisely equals quantity supplied.
How Long Run Equilibrium is Reached
Long run equilibrium is reached through a dynamic process driven by the pursuit of profit and avoidance of loss among businesses. If firms in an industry are earning positive economic profits in the short run, this signals an attractive market opportunity. Such profitability incentivizes new firms to enter, seeking to capture profits. As more firms enter, overall market supply increases, placing downward pressure on market prices. This reduction in prices diminishes economic profits for all firms.
Conversely, if firms experience economic losses, some businesses find it unsustainable to continue operations. These firms exit the market, decreasing overall market supply. This reduction in supply pushes market prices upward, reducing economic losses for remaining firms. This process continues until economic profits are driven to zero, removing the incentive for firms to enter or leave, and the market achieves long run equilibrium.