In a competitive market, which situation is most likely to create excess demand (a shortage)?

• A. Both supply and demand decrease by the same proportion, leaving the equilibrium price unchanged.
• B. The price is set above the equilibrium price, such as when a binding price floor is imposed.
• C. A technological improvement increases supply while demand stays the same, creating downward pressure on price.
• D. The price is set below the equilibrium price, such as when a binding price ceiling is imposed.

Answer: (D)

Verified step by step guidance

1. Step 1: Understand the concept of excess demand (shortage). Excess demand occurs when the quantity demanded exceeds the quantity supplied at a given price, leading to a shortage of the good in the market.
2. Step 2: Recall that in a competitive market, the equilibrium price is where quantity demanded equals quantity supplied. Any price set below this equilibrium price will increase quantity demanded but decrease quantity supplied, causing excess demand.
3. Step 3: Analyze the effect of a price ceiling set below the equilibrium price. Since the price is artificially kept low, consumers want to buy more, but producers supply less, resulting in a shortage.
4. Step 4: Contrast this with other scenarios: a price floor above equilibrium causes excess supply (surplus), and proportional decreases in supply and demand leave equilibrium price unchanged without causing shortage or surplus.
5. Step 5: Conclude that the situation most likely to create excess demand is when the price is set below the equilibrium price, such as with a binding price ceiling.