Question

Assume Economy Ashland produces Pepsi.

a.)In the space provided below show the Pepsi market by graphing the coffee demand and supply curves. Label the Demand curve D1, Supply curve S1, Equilibrium point E1, Price Equilibrium P1, and Quantity Equilibrium Q1, both axis.

Now assume that the beverage backing/shipping industry develops new technology to better transport/produce soda which Pepsi incorporates. At the same time price of pizza (a complementary good to Pepsi) increases.

b) In sentences, describe what will happen to market supply and market demand for Pepsi. In the graph above, denote these changes if any with D2 for Demand curve two, S2 for Supply curve two, P2 for price equilibrium 2, E2 for equilibrium quantity, and Q2 for quantity equilibrium.  

c) In sentences, describe what will happen to price equilibrium and quantity equilibrium of Pepsi with these changes.

Answer 1

(a) In following graph, price (P) and quantity (Q) are measured vertically and horizontally respectively. Initial equilibrium is at point E1 where D1 intersects S1 with price P1 and quantity Q1.

(b) New technology will decrease cost of production which will increase supply, shifting S1 rightward to S2, decreasing price and increasing quantity. A simultaneous increase in price of a complement good will decrease the demand for Pepsi, shifting its demand curve leftward from D1 to D2, decreasing price and decreasing quantity. The net effect is a definite decrease in price, but quantity may rise, fall or remain the same whether the rightward shift in supply is more than, less than or equal in magnitude to the leftward shift in demand curve. In above graph, D2 and S2 intersect at point E2 with lower price P2. In the graph, leftward shift in demand curve is equal in magnitude to the rightward shift in supply curve, so quantity is the same at original level of Q1.

(c) As result of these events, price will definitely decrease, but effect on quantity is uncertain, as described in part (b) above.