PROBLEMS & EXERCISES
SOLUTIONS & DISCUSSION
UNIT ONE (FOR EXAM 1)
Unit One: Assignment 1: Problem 2 from page 79
2. Draw hypothetical supply and demand curves for tea. Show how the equilibrium price and quantity will be affected by each of the following occurences:
a. Bad weather wreaks havoc with the tea crop.
b. A medical report implying tea is bad for your health is published.
c. A technological innovation lowers the cost of producing tea.
d. Consumers' income falls.
Remember, you should make only one shift in each case. Decide whether the shift is on the demand or supply side. Then decide whether it is an increase or decrease.
- This clearly impacts the supply of tea. The result is a decrease in supply. Equilibrium price rises and equilibrium quantity goes down.
- Here we have a demand shift. The demand curve shifts down and to the left (a reduction in demand). Equilibrium price and quantity both go down.
- Typically, technological innovations (improvements) result in a supply curve shift. The shift is to the right as supply increases. Equilibrium price drops as equilibrium quantity increases.
- This results in a shift in demand. For most goods, known as normal goods, a reduction in income results in a lower demand for the item. (Items classified as inferior goods are an exception to this.) Graphically, you have the same situation as in part b above.
Click here for graphs.
