The concept of equilibrium and its use in demand forecasting

Forecasts of the future price and quantity of a service or commodity often ignore the dynamic interaction between demand and supply, perhaps because the economic meaning of these concepts is often rather fuzzily defined. This paper attempts to remove some of the fuzziness, and shows that the equilibrium point where supply and demand are equal has a clear interpretation. Further it argues that forecasts of the movement of the equilibrium point over time are meaningful and useful. Using the notion of equilibrium a model is constructed which forecasts simultaneously the rates of change of price and output. This model shows how a forecast is biased when the interaction between demand and supply is not included and what special assumptions are implicitly made by a forecaster who ignores it. Finally, the paper shows how uncertainty about the parameters of the model affects the estimates of the rates of change, providing uncertain estimates of price and quantity.