Sunday, May 18, 2008

An Increase in Supply & Demand

Both curves shift in this case.

An increase in supply is illustrated by a shift of the supply curve to the right.

An increase in supply can be caused by:
  • an increase in the number of producers.
  • a decrease in the costs of production (such as higher prices for oil, labor, or other factors of production).
  • weather (e.g., ideal weather may increase agricultural production)
  • technology (Technological innovations typically increase supply.)
  • expectations (e.g., producers might increase current production if they anticipate less favorable market conditions in the future.)
An increase in demand is illustrated by a shift of the demand curve to the right.

An increase in demand can be caused by:
  • an increase in the number of consumers.
  • an increase in income (for normal products) or a decrease in income (for inferior products, such as Ramen noodles).
  • an increase in the price of a substitute product.
  • a decrease in the price of a complementary product.
  • a change in tastes and preferences (e.g., if the product has become more popular or fashionable)
  • expectations (e.g., consumers might increase current demand if they anticipate less favorable market conditions, such as shortages or higher prices, in the future.)

When there is an increase in supply and an increase in demand, the new equilibrium quantity increases. The new equilibrium price may be higher, lower, or unchanged depending on the magnitudes of the shifts.


When supply and demand both increase, ceteris paribus, in the new equilibrium:

Supply has increased. (The supply curve shifted to the right.)
Demand has increased. (The demand curve shifted to the right.)
The quantity supplied increased to the new equilibrium quantity.
The quantity demanded increased to the new equilibrium quantity.
The equilibrium price may increase, decrease, or stay the same depending on the magnitude of the shifts of supply and demand.

An increase in supply typically causes a decrease in the equilibrium price and an increase in the equilibrium quantity.
An increase in demand typically causes an increase in the equilibrium price and an increase in the equilibrium quantity.
Thus, the increases and supply and demand are both contributing to the increase in the equilibrium quantity. The increase in supply is putting downward pressure on the equilibrium price. The increase in demand is putting upward pressure on the equilibrium price. Since the supply shift and demand shift are trying to push the equilibrium price in opposite directions, the overall effect on the equilibrium price will depend on which effect is larger. The new equilibrium price could stay the same, increase or decrease:
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AN INCREASE IN SUPPLY & DEMAND WHERE PRICE IS UNCHANGED.


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AN INCREASE IN SUPPLY & DEMAND WHERE PRICE INCREASES


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AN INCREASE IN SUPPLY & DEMAND WHERE PRICE DECREASES

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