Module Supply and Demand: Changes in Equilibrium 7 KRUGMAN'S MACROECONOMICS for AP* Margaret Ray and David Anderson

What you will learn in this Module: 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

What Happens When the Demand Curve Shifts? Note: When a demand curve shifts, students will find it easy to locate the new intersection and label it as the new equilibrium price and quantity. It’s important to stress how the market adjusts from original, to new, equilibrium points.   There are three important components that students must identify for the AP exam. What shifter is at work in the market? What curve is shifting and in what direction? What happens to equilibrium price and quantity? Pick an example that resonates with the class, or ask them to suggest example goods and/or services. Example 1: tickets to a concert for a popular musician or band. As the band has more success, and gets more popular with fans, what happens to the price of a concert ticket? Draw the market for concert tickets to this band. Identify the original price as Pe and quantity of Qe. Now analyze the three important components for this scenario. Stronger tastes and preferences. Demand shifts to the right. Price and quantity both increase. But why? Show the rightward shift of the demand curve. At the original price of Pe, there is a now a shortage of tickets. When there is a shortage, the price must rise. The equilibrium quantity moves upward along the stationary supply curve to the intersection of supply and the new demand curve. When demand increases, the equilibrium price and quantity both increase

What Happens When the Demand Curve Shifts? Example 2: During a recession, people buy fewer new cars and trucks. What happens to the price of a new car or truck?   Draw the market for new autos. Identify the original price as Pe and quantity of Qe. Now analyze the three important components for this scenario. Lower income during a recession. Demand shifts to the left for normal goods. Price and quantity both decrease. But why? Show the leftward shift of the demand curve. At the original price of Pe, there is a now a surplus of autos. When there is a surplus, the price must fall. The equilibrium quantity moves downward along the stationary supply curve to the intersection of supply and the new demand curve. When demand decreases, the equilibrium price and quantity both decrease

What Happens When the Supply Curve Shifts? Note: Stress to the students that when we say that supply has increased, it has increased horizontally (more supply equals more quantity), not vertically.   Example 1: Cotton is an important raw material in the making of clothes like denim jeans. If the global price of cotton rises, what happens to the price of jeans? Draw the market for jeans. Identify the original price as Pe and quantity of Qe. Now analyze the three important components for this scenario. An input price has increased (cotton). Supply of jeans shifts to the left. Price increases and quantity decreases. But why? Show the leftward shift of the supply curve. At the original price of Pe, there is a now a shortage of jeans. When there is a shortage, the price must rise. The equilibrium quantity moves upward along the stationary demand curve to the intersection of demand and the new supply curve. When supply decreases, the equilibrium price increases and the equilibrium quantity decreases

What Happens When the Supply Curve Shifts? Example 2: Production technology has greatly improved in agriculture, producing more corn on the same amount of land. How has the better technology affected the price of corn?   Draw the market for corn. Identify the original price as Pe and quantity of Qe. Now analyze the three important components for this scenario. Better technology. Supply of corn shifts to the right. Price decreases and quantity increases. But why? Show the rightward shift of the supply curve. At the original price of Pe, there is a now a surplus of corn. When there is a surplus, the price must fall. The equilibrium quantity moves downward along the stationary demand curve to the intersection of demand and the new supply curve. When supply increases, the equilibrium price decreases and the equilibrium quantity increases

Simultaneous Shifts of Supply and Demand Note: there are four possible scenarios. The instructor should decide, depending upon the comfort level of the class, whether it is necessary to cover all four.   Here is a summary of what we can, and cannot, predict when there is both a demand and a supply shift. Demand and Supply move in opposite directions. When demand increases and supply decreases, the equilibrium price rises but the change in the equilibrium quantity is ambiguous. Example: an increase in the demand for wheat combined with a decrease in the supply of wheat would result in a definite increase in the market price, but an indeterminate change in quantity. When demand increases and supply decreases the equilibrium price definitely increases, but quantity is ambiguous

Simultaneous Shifts of Supply and Demand When demand decreases and supply increases, the equilibrium price falls but the change in the equilibrium quantity is ambiguous A decrease in the demand for rap music coupled with an increase in rap artists would have the effect of reducing the market price but would have an indeterminate effect on the quantity of rap music produced. When demand decreases and supply increases the equilibrium price definitely decreases, but quantity is ambiguous

Simultaneous Shifts of Supply and Demand Demand and Supply move in the same direction. When both demand and supply increase, the equilibrium quantity increases but the change in equilibrium price is ambiguous. Example 2: The recent Winter Olympics has increased the popularity of snowboarding and more companies have begun producing snowboards. How will these events affect the market for snowboards?   Demand shift: Tastes and preferences are stronger for snowboarding. This shifts demand for snowboards to the right. Price and quantity of snowboards both increase. Supply shift: More suppliers are producing snowboards. Supply of snowboards shifts to the right. Price decreases, and quantity increases. Both shifts generate an increase in the quantity, so we can certainly predict a higher equilibrium quantity of snowboards. However the change in price depends on which of the two shifts is stronger. Note: many students will assume that there will be no change in the equilibrium price. Stress to the students that this is just one of three possible outcomes for price. When demand and supply increase, the change in equilibrium price is ambiguous, but equilibrium quantity definitely increases

Simultaneous Shifts of Supply and Demand When both demand and supply decrease, the equilibrium quantity decreases but the change in equilibrium price is ambiguous. Example: a decrease in the demand for disco music combined with a decrease in disco artists would result in a definite decrease in the quantity of disco produced, but would have an indeterminate effect on the price of the music. When demand and supply decrease, the change in equilibrium price is ambiguous, but equilibrium quantity definitely decreases