Question

Chapter 2 should be a review of previous economics classes you have taken. What do we expect to happen to market equilibrium price and quantity when demand increases? What about when supply decreases? (In other words, make sure you are familiar with the basic supply and demand model. You may want to play with the graphs on your own)

Answer 1

When Demand Increases

When demand increases, the demand curve shifts to the right. Assuming that supply remains same, the new demand curve will intersect the original supply curve at new Equilibrium point. At new Equilibrium point , the Equilibrium Price and Equilibrium Quantity will increase. When Quantity Demanded exceeds Quantity Supplied, a shortage is created. This shortage put upward pressure on price and hence Equilibrium Price will increase.

As demand increases demand curve DD shifts towards right to D1D1 and will intersect supply curve SS at new Equilibrium point E1. At E1, the Equilibrium Price will increase from P to P1 and Equilibrium Quantity will increase from Q to Q1.

When Supply decreases

When the supply decreases, the supply curve will shift towards left. Assuming demand remains unchanged, the new supply curve will intersect the original demand curve at new Equilibrium Point. At new Equilibrium point, Equilibrium Price will increase and Equilibrium Quantity will decrease. When Quantity Demanded exceeds Quantity Supplied, a Shortage will be created. This shortage will put upward pressure on price and hence Equilibrium Price will increase.

As the supply decreases, the supply curve shifts leftward from SS to S1S1 and will intersect demand curve DD at new Equilibrium Point E1. At E1, the Equilibrium Price will increase from P to P1 and Equilibrium Quantity will decrease from Q to Q1.