Question

It is possible for both supply and demand to change at the same time in actual market situations. Suppose both demand and supply increases and the new equilibrium price is greater than E. What has happened? Suppose both supply and demand decrease and price increases. What has happened?

Answer 1

(a) When both demand and supply increase and new equilibrium price is higher, it means the increase in demand is higher than the increase in supply.

When supply rises, supply curve shifts rightward, so price falls. A simultaneous rise in demand shifts demand curve rightward, so price rises. Therefore as net effect, price will increase if rightward shift in demand curve is higher in magnitude than the rightward shift in supply curve.

In following graph, D0 & S0 are initial demand and supply curves intersecting at point A with initial price P0 & quantity Q0. As demand rises, demand curve shifts right to D1 and as supply rises, supply curve shifts right to S1, intersecting D1 at point B with higher price P1 and higher quantity Q1.

(b) When both demand and supply decrease and new equilibrium price is higher, it means the decrease in demand is lower than the decrease in supply.

When supply falls, supply curve shifts leftward, so price rises. A simultaneous fall in demand shifts demand curve leftward, so price falls. Therefore as net effect, price will increase if leftward shift in demand curve is lower in magnitude than the leftward shift in supply curve.

In following graph, D0 & S0 are initial demand and supply curves intersecting at point A with initial price P0 & quantity Q0. As demand falls, demand curve shifts left to D1 and as supply falls, supply curve shifts left to S1, intersecting D1 at point B with higher price P1 and lower quantity Q1.