Microeconomics: Supply and Demand Problem Set Guidance

Q1. The demand and supply for chocolate bars per week are as follows (table provided). (a) Graph the above information and determine the equilibrium price and quantity.

Background

Topic: Market Equilibrium in Supply and Demand

This question tests your ability to interpret supply and demand schedules, graph them, and identify the equilibrium price and quantity where the market clears (quantity demanded equals quantity supplied).

Key Terms and Formulas

• Quantity Demanded (QD): The amount consumers are willing to buy at each price.

• Quantity Supplied (QS): The amount producers are willing to sell at each price.

• Equilibrium: The price and quantity where QD = QS.

Step-by-Step Guidance

1. Draw two axes: price (vertical) and quantity (horizontal).

2. Plot the demand curve by marking each (price, QD) pair and connecting the points.

3. Plot the supply curve by marking each (price, QS) pair and connecting the points.

4. Look for the intersection point of the two curves—this is the market equilibrium.

5. Identify the price and quantity at this intersection. This is your equilibrium price and quantity.

Try solving on your own before revealing the answer!

Q1(b). Suppose a major fire destroys one-half of the chocolate bar factories, decreasing the original supply schedule by one-half. Illustrate this change on your graph. Calculate the new equilibrium price and quantity as a result of the fire.

Background

Topic: Shifts in Supply and Market Equilibrium

This question examines how a negative supply shock (reduction in supply) affects the market equilibrium.

Key Terms and Formulas

• Supply Shock: An event that suddenly changes the supply of a good.

• New Supply Schedule: For each price, the new QS is half the original QS.

Step-by-Step Guidance

1. For each price, calculate the new quantity supplied by dividing the original QS by 2.

2. Plot the new supply curve (label it S2) on your graph, keeping the original demand curve unchanged.

3. Find the new intersection point between the demand curve and the new supply curve.

4. Identify the new equilibrium price and quantity at this intersection.

Try solving on your own before revealing the answer!

Q1(c). If the fire destroyed one-half of the production facilities, why is the new equilibrium quantity sold in the market not exactly one-half of the original equilibrium quantity? Explain.

Background

Topic: Market Adjustment and Elasticity

This question tests your understanding of how market equilibrium adjusts to supply shocks and why the change in equilibrium quantity is not always proportional to the change in supply.

Key Terms

• Elasticity: The responsiveness of quantity demanded or supplied to changes in price.

• Market Adjustment: The process by which prices and quantities change in response to shifts in supply or demand.

Step-by-Step Guidance

1. Recall that the demand curve remains unchanged while the supply curve shifts left.

2. At the new equilibrium, the price will be higher, and the quantity will be lower, but not necessarily half the original quantity.

3. Think about how the intersection of the new supply curve and the unchanged demand curve determines the new equilibrium.

4. Consider the role of price changes in encouraging more supply and reducing demand, which prevents the quantity from falling exactly by half.

Try explaining this in your own words before checking the answer!

Q1(d). Given the original demand and supply, explain how the equilibrium (P* and Q*) is affected by each of the following:

• i) Decrease in GST.

• ii) Increase in price of other snacks.

• iii) Increase in fire insurance premiums.

Background

Topic: Comparative Statics—Shifts in Demand and Supply

This question asks you to predict the direction of changes in equilibrium price and quantity when external factors shift demand or supply.

Key Terms

• Comparative Statics: Analysis of how equilibrium changes when supply or demand shifts.

• Substitutes: Goods that can replace each other in consumption.

• Taxes and Costs: Affect supply by changing production costs.

Step-by-Step Guidance

1. For each scenario, determine whether it affects demand, supply, or both.

2. Predict the direction of the shift (right/increase or left/decrease) for the relevant curve.

3. Use a supply and demand diagram to visualize how the shift affects equilibrium price (P*) and quantity (Q*).

4. Summarize the expected change (increase, decrease, or ambiguous) for both P* and Q* for each scenario.

Try reasoning through each scenario before checking the answer!

Q2. Use demand and supply graphs to illustrate each of the following situations:

• a) "Coffee is essential to me. I have exactly two cups of coffee each morning no matter what."

• b) "People will buy more small cars now because the cost of running and operating (i.e., gas and insurance) a large car has risen." (Use two graphs: one for large cars, one for small cars.)

• c) "In 2010, the price of Reebok running shoes was $59.99 and we sold 2,000 pairs, and now they cost $99.99 and we sell 3,500 pairs. Therefore the Law of Demand is wrong."

Background

Topic: Demand Curves, Substitutes, and Exceptions to the Law of Demand

These questions test your ability to interpret and draw demand and supply curves for different market scenarios, including perfectly inelastic demand, the effect of substitutes, and apparent violations of the law of demand.

Key Terms

• Perfectly Inelastic Demand: Quantity demanded does not change with price.

• Substitute Goods: An increase in the price of one good increases demand for another.

• Law of Demand: As price increases, quantity demanded typically decreases.

Step-by-Step Guidance

1. For (a), draw a vertical demand curve to represent perfectly inelastic demand.

2. For (b), show a decrease in demand for large cars (leftward shift) and an increase in demand for small cars (rightward shift).

3. For (c), consider possible reasons why the observed data might not violate the law of demand (e.g., changes in preferences, quality, or other factors).

Try sketching the graphs and reasoning through each scenario before checking the answer!

Q3. Each winter, the price of fresh fruit in Canada rises, sometimes to very high levels.

• (a) Draw a supply and demand graph explaining such seasonal increases in fresh fruit prices.

• (b) Why does the government not attempt to protect consumers against such price increases by placing legal limits on fruit prices?

Background

Topic: Seasonal Shifts in Supply and Price Controls

This question tests your understanding of how seasonal changes affect supply and how price controls can lead to unintended consequences like shortages.

Key Terms

• Supply Shift: Seasonal factors can shift the supply curve left (decrease) in winter and right (increase) in summer.

• Price Ceiling: A legal maximum price set below equilibrium can cause shortages.

Step-by-Step Guidance

1. Draw two supply curves: one for summer (right) and one for winter (left), with a stable demand curve.

2. Show how the intersection with demand leads to higher prices in winter and lower prices in summer.

3. Consider what happens if the government sets a price ceiling at the lower (summer) price during winter—think about the resulting shortage.

Try drawing the graphs and explaining the effects before checking the answer!