What is a Clearing Price?

At any point in a market, there will be people who want to sell a particular good, such as stock in one company, and people who want to buy it. In a perfect market, a price will develop that is mutually acceptable to sellers and buyers. At this price, all of the available goods should sell, but nobody who wants to buy the good will miss out. This price is known as the clearing price.

If either demand for or supply of the good changes, the price should adjust accordingly. For example, if it is a cold summer day in a park, demand for ice cream will fall. In a perfect market, sellers of ice cream in the park will drop their asking price until they have enough buyers to sell out their available stock exactly to the line of customers. This is a literal case of a market clearing price.

In reality, market clearing prices tend not to happen very often for goods and services. That’s because it takes time for sellers to adjust their prices to meet changing situations, particularly where doing so involves extra administration such as reprinting price lists or shelf stickers. There are often limitations to how well-informed both sellers and buyers are about price changes among the various sellers in a market.

A clearing price is more likely to occur in a financial market such as a stock exchange. This is because buyers and sellers are much better informed about the available prices of assets such as stocks and can react quickly. A financial market also does a better job than real world stores at dealing with the fact that different buyers are willing to pay different maximum prices, while different buyers are willing to accept different minimum prices.

Systems such as electronically controlled stock markets are designed to match up these buyers and sellers in the most efficient way so that as many people as possible are happy and can make a trade. This means that at any one moment, the system is usually as close as possible to having no buyers or sellers without a deal. For this reason the term clearing price in a stock market is often used simply to mean the last price at which the asset was traded. It differs from the bid price and the ask price which are, respectively, the highest amount anyone is currently willing to pay for an asset and the lowest amount anyone is currently willing to sell it for.

One example of the term “clearing price” in economic debate was the housing and financial crisis of the late 2000s in the United States. In theory, the clearing price would be the amount houses actually sold for, and would be determined by supply and demand. However, some economists argued that external intervention to help people who couldn’t afford to repay their mortgages was artificially keeping prices high. They used terms such as “let the market find its clearing price” to argue that such mortgages should be allowed to foreclose, thus driving prices down to a more realistic level.