Suppose demand is perfectly elastic, and the supply of the good in question decreases. As a result, which of the following will occur?

• A. Both the equilibrium price and quantity decrease.
• B. Both the equilibrium price and quantity increase.
• C. The equilibrium price increases, but the equilibrium quantity remains unchanged.
• D. The equilibrium price remains unchanged, but the equilibrium quantity decreases.

Answer: (D)

Verified step by step guidance

1. Understand the concept of perfectly elastic demand: This means that the demand curve is horizontal, indicating that consumers will only buy the good at a specific price, and any change in price will cause the quantity demanded to drop to zero.
2. Recognize the effect of a decrease in supply: A decrease in supply shifts the supply curve to the left, meaning that at every price, the quantity supplied is now lower than before.
3. Analyze the interaction between perfectly elastic demand and decreased supply: Since the demand curve is perfectly elastic (horizontal), the price cannot increase or decrease without losing all demand; therefore, the price must remain constant.
4. Determine the new equilibrium quantity: With the supply curve shifting left and the price fixed by the perfectly elastic demand, the equilibrium quantity must decrease because less quantity is supplied at the unchanged price.
5. Conclude the outcome: The equilibrium price remains unchanged due to perfectly elastic demand, while the equilibrium quantity decreases due to the reduction in supply.