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Chapter 4: Supply and Demand
Chapter 4: Supply and Demand
Questions and Exercises
1.
The law of demand states that quantity demanded falls as price increases; or that
quantity demanded rises as price falls. Price is inversely related to quantity
demanded because as price rises, consumers substitute other goods whose price
has not risen.
2. a.
Price
2
4
6
8
10
12
14
16
Market
Demand
64
56
44
36
28
20
12
8
b. See the accompanying graph of the table.
c. At the market price of $4, the total market demand is 56. If the price rises to $8,
the total market demand will fall to 36.
d. All of the curves will shift to the right by 50 percent. [(Note: The top part of
John's demand curve will not shift to the right (an additional 50% of zero is still
zero).]
3.
Four shift factors of demand are income, price of other goods, tastes, and
expectations. A fifth shift factor is taxes and subsidies to consumers. As income
rises, demand increases. As the prices of other substitute goods rise, demand
increases. As tastes change to favor a particular good, the demand for that good
increases. If people expect the price of a good to fall in the future, demand will
fall now. Taxes reduce demand, while subsidies increase it.
4.
A change in the price causes a movement along the demand curve to a new point
on the same curve. A shift in the demand curve means that the quantities will be
different at all prices; the entire curve shifts.
5.
The law of supply states that quantity supplied rises as price increases or,
alternatively, that quantity supplied falls as price decreases. Price is directly
related to quantity supplied because, as price rises, people and firms rearrange
their activities to supply more of that good in order to take advantage of the
higher price.
Colander’s Economics, 8e. McGraw Hill © 2010
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Chapter 4: Supply and Demand
6.
Saying that supply increases means that the curve has shifted to the right, which is
not the result of a price change. The correct statement is that, normally, as price
rises, the quantity supplied increases, other things constant.
7.
Shift factors of supply include the price of inputs, technological advances,
changes in expectations, and taxes and subsidies. As the price of inputs increase,
the supply curve shifts to the left. As technological advances are made that reduce
the cost of production, the supply curve shifts to the right. If a supplier expects the
price of her good to rise, she may decrease supply now to save and sell later.
Other expectational effects are also possible. Taxes paid by suppliers shift the
supply curve to the left. Subsidies given to producers shift the supply curve to the
right.
8.
When adding two supply curves, sum
horizontally the two individual supply
curves, as in the accompanying diagram. S3
is the market supply curve.
9. a. The market demand and market supply curves
are shown in the accompanying graph.
b. At a price of $30, quantity demanded is 35
and quantity supplied is 15. Excess demand is
20. At a price of $60, quantity demanded is 5
and quantity supplied is 45. Excess supply is
40.
c. Equilibrium price is $40. Equilibrium quantity
is 25.
10.
In the accompanying graph, the demand curve has
shifted to the left, causing a decrease in the
market price and the market quantity.
Colander’s Economics, 8e. McGraw Hill © 2010
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Chapter 4: Supply and Demand
11.
The price of airline tickets rises during the summer
months because demand for airline travel increases as
more people take vacations. This is shown in the
accompanying graph.
12.
Sales volume increases (equilibrium quantity rises)
when the government suspends the tax on sales by
retailers because the price to demanders falls and
hence equilibrium quantity demanded rises. This
occurs because the supply curve shifts to the right
because suppliers do not have to pay taxes on their
sales (cost of production declines).
13.
Increased security measures imposed by government
will increase the cost of providing air travel. This will
shift the supply curve to the left, increase equilibrium
price to P1 and decrease equilibrium quantity to Q1 as
shown in the accompanying graph. They also might
reduce demand (the hassles of the increased security
and the additional time it takes to travel), further
decreasing equilibrium quantity and offsetting the rise
in price, in this case to P2.
Some students might argue that increased security will increase demand because
consumers will feel more comfortable flying (they don't have to worry about
terrorists as much). If demand increased, the price would go up even higher and
the equilibrium quantity would also increase.
14.
Customers will flock to stores demanding that funky “economics professor” look,
creating excess demand (the demand curve shifts right). This excess demand will
soon catch the attention of suppliers, and prices will be pushed upward.
Colander’s Economics, 8e. McGraw Hill © 2010
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Chapter 4: Supply and Demand
15.
As substitutes for bottled water—clean tap water—decrease, demand for bottled
water increases enormously, and there will be upward pressure on prices. Social
and political forces will, however, likely work in the opposite direction—against
“profiteering” from people’s misery.
16.
Because the price of gas rose significantly, we’d expect people to purchase fewer
gas-guzzlers and more fuel-efficient cars such as diesel cars (the demand for
diesel cars will increase).
17.
Increasing oil production (not as a result of a price
change) will shift the supply of oil out to the right. The
price of oil will decline as shown in the accompanying
graph.
18.
The results for each part are shown in the
accompanying graphs.
a. The bad weather causes a decrease in supply. This is
shown by a shift in supply from S0 to S1. Equilibrium
price rises from P0 to P1 while equilibrium quantity
falls from Q0 to Q1.
b. The medical report causes a decrease in demand. This
is shown by a shift in demand from D0 to D1.
Equilibrium price falls from P0 to P1 and equilibrium
quantity falls from Q0 to Q1.
c. The innovation causes an increase in supply. This is
shown as a shift in supply from S0 to S1. Equilibrium
price falls from P0 to P1 while equilibrium quantity
rises from Q0 to Q1.
Colander’s Economics, 8e. McGraw Hill © 2010
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Chapter 4: Supply and Demand
d. The drop in income causes a decrease in demand.
This is shown by a shift in demand from D0 to D1.
Equilibrium price falls from P0 to P1 and equilibrium
quantity falls from Q0 to Q1.
19. a. I would expect wheat prices to decline since the
supply of wheat is greater than expected. Wheat
commodity markets are very competitive, so the
initial 35 percent increase in output was already
reflected in the current price of wheat. It is only the
additional 9 percent increase that will push down the
price of wheat.
b. This is graphically represented by a shift to the right
in the supply of wheat, as shown in the accompanying
graph. Equilibrium price falls from P0 to P1 while
equilibrium quantity rises from Q0 to Q1.
20. a. The cars in Italy are most likely much smaller than in the United States. Italians
would be likely to want to conserve gasoline and thus demand smaller cars that
use less gasoline.
b. As in (a), Italians will want to conserve gasoline more and thus use public
transportation more than Americans use it.
c. As in (a) and (b), Italians will be more concerned with fuel efficiency in their
desire to conserve gasoline since it is relatively more expensive there.
d. Raising the price of gasoline in the United States to $4 per gallon will decrease
the size of cars driven in the U.S., increase U.S. use of public transportation, and
increase the fuel efficiency of cars purchased in the U.S.
21. a. The tax shifts the supply curve to the left because it
increases the cost of supplying the natural gas abroad.
Equilibrium price rises while equilibrium quantity
declines.
b. The tax likely reduced the price of natural gas in
Argentina as more gas was diverted to the domestic
market.
Colander’s Economics, 8e. McGraw Hill © 2010
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Chapter 4: Supply and Demand
22.
It suggests that the price is above the equilibrium price so
that the quantity supplied exceeds the quantity demanded,
as you can see in the accompanying graph.
23.
The fallacy of composition is the false assumption that what is true for a part will
also be true for the whole. It affects the supply/demand model by drawing our
attention to the possibility that supply and demand are interdependent. Feedback
effects must be taken into account to make the analysis complete.
24.
The greatest feedback effects are likely to occur in the markets that are the largest.
This is most likely to be true for housing and manufactured-goods markets.
25. a. Because the market for pencils is relatively small, supply/demand analysis would
be appropriate without modification. Also, there are no significant political or
social forces that would affect the analysis.
b. Because the labor market is very large, supply/demand analysis would not be
appropriate without modification. For example, an increase in labor supply will
likely lead to greater income and greater demand for goods, which will lead to an
increase in quantity of goods produced and therefore an increase in the demand
for labor. In this case there are significant feedback effects.
c. Aggregate markets such as savings and expenditures include feedback effects, so
supply/demand analysis would not be appropriate without modification.
d. The CD market is relatively small. Supply/demand analysis would be appropriate
without modification.
Issues to Ponder
1.
It suggests that the job is being rationed, which means that the wage is above the
equilibrium wage.
2. a. It increased the demand for housing and increased housing prices.
b. It decreased the demand for housing and decreased housing prices.
c. The price would increase more in San Francisco.
Colander’s Economics, 8e. McGraw Hill © 2010
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Chapter 4: Supply and Demand
3. a. It would likely raise the value significantly – it was estimated that it would
raise it to $50,000 a sheet. Demand shifts to the right as people realize the
oddity of the stamp. Supply shifts to the left because of the recall.
b. It would probably lower the value of the stamps – it was estimated that it
would lower the price of the sheet to $100 a sheet. Graphically this would be
shown with the supply curve shifting back to the left, resulting in a lower
price. The demand curve could remain high, though it might shift back to the
left.
c. They would likely sue to stop the additional sheets from being issued; they
did and they lost.
4. a. The number of punitive awards would decline because the incentive for
plaintiffs to pursue a case declines. The demand curve shifts down by the
amount of the tax, lowering the equilibrium price of punitive awards.
b. The number of pre-trial settlements would rise because the plaintiff would
be willing to accept a lower settlement that is not taxed and the defendant
would get to pay a lower punitive award.
5.
A supply/demand analysis that includes only economic forces will likely be
incomplete because social and political forces will also impact equilibrium price
and quantity. One example is that the prediction that a disaster that leads to loss of
electricity will lead to higher prices for flashlights might be wrong if there are
laws that prohibit such price gouging during emergencies. Social and political
forces must be added to the supply/demand model.
Colander’s Economics, 8e. McGraw Hill © 2010
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