supply and demand

Topics: Supply and demand, Demand curve, Economic equilibrium Pages: 6 (2896 words) Published: May 24, 2014
KrugMicro2eMods_Mod07_Layout 1 3/21/11 2:08 PM Page 71

What you will learn
in this Module:

Module 7
Supply and Demand:
Changes in Equilibrium



How equilibrium price and
quantity are affected when
there is a change in either
supply or demand



How equilibrium price and
quantity are affected when
there is a simultaneous
change in both supply
and demand

Changes in Supply and Demand
The emergence of Vietnam as a major coffee-producing country came as a surprise, but the subsequent fall in the price of coffee beans was no surprise at all. Suddenly, the quantity of coffee beans available at any given price rose—that is, there was an increase in supply. Predictably, the increase in supply lowered the equilibrium price. The entry of Vietnamese producers into the coffee bean business was an example of an event that shifted the supply curve for a good without affecting the demand curve. There are many such events. There are also events that shift the demand curve without shifting the supply curve. For example, a medical report that chocolate is good for you increases the demand for chocolate but does not affect the supply. That is, events often shift either the supply curve or the demand curve, but not both; it is therefore useful to ask what happens in each case.

We have seen that when a curve shifts, the equilibrium price and quantity change. We will now concentrate on exactly how the shift of a curve alters the equilibrium price and quantity.

What Happens When the Demand Curve Shifts
Coffee and tea are substitutes: if the price of tea rises, the demand for coffee will increase, and if the price of tea falls, the demand for coffee will decrease. But how does the price of tea affect the market equilibrium for coffee?

Figure 7.1 on the next page shows the effect of a rise in the price of tea on the market for coffee. The rise in the price of tea increases the demand for coffee. Point E1 shows the original equilibrium, with P1 the equilibrium price and Q1 the equilibrium quantity bought and sold.

An increase in demand is indicated by a rightward shift of the demand curve from D1 to D2. At the original market price, P1, this market is no longer in equilibrium: a shortage occurs because the quantity demanded exceeds the quantity supplied. So the price of coffee rises and generates an increase in the quantity supplied, an upward module 7

Supply and Demand: Changes in Equilibrium

71

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figure

7.1

Equilibrium and Shifts of
the Demand Curve

Photodisc

The original equilibrium in the market
for coffee is at E1, at the intersection of
the supply curve and the original demand curve, D1. A rise in the price of tea, a substitute, shifts the demand
curve rightward to D2. A shortage exists
at the original price, P1, causing both
the price and quantity supplied to rise, a
movement along the supply curve. A
new equilibrium is reached at E2, with a
higher equilibrium price, P2, and a
higher equilibrium quantity, Q2. When
demand for a good or service increases,
the equilibrium price and the equilibrium quantity of the good or service both rise.

Price
of coffee

An increase
in demand . . .

P1

. . . leads to a
movement along
the supply curve to
a higher equilibrium
price and higher
equilibrium quantity.

E2

P2
Price
rises

Supply

E1

D2
D1

Q1

Q2

Quantity of coffee

Quantity rises

movement along the supply curve. A new equilibrium is established at point E2, with a higher equilibrium price, P2, and higher equilibrium quantity, Q2. This sequence of events reflects a general principle: When demand for a good or service increases, the equilibrium price and the equilibrium quantity of the good or service both rise. What would happen in the reverse case, a fall in the price of tea? A fall in the price of tea reduces the demand for coffee, shifting the demand curve to the left. At the...
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