Effect of a Shift in Supply or Demand

The analysis of the supply-and-demand apparatus can do much more than tell us about the equilibrium price and quantity. It can also be used to predict the impact of changes in economic conditions on prices and quantities. Let's change our example to the staff of life, bread. Suppose that a spell of bad weather raises the price of wheat, a key ingredient of bread. That shifts the supply curve for bread to the left. This is illustrated in Figure 3-8 (a), where the bread supply curve has shifted from SS to S'S'. In contrast, the demand curve has not shifted because people's sandwich demand is largely unaffected by farming weather.

What happens in the bread market? The bad harvest causes bakers to produce less bread at the old price, so quantity demanded exceeds quantity supplied. The price of bread therefore rises, encouraging production and thereby raising quantity

(a) Supply Shift

(b) Demand Shift

(a) Supply Shift

(b) Demand Shift

Q

Quantity Quantity

FIGURE 3-8. Shifts in Supply or Demand Change Equilibrium Price and Quantity

(a) If supply shifts leftward, a shortage will develop at the original price. Price will be bid up until quantities willingly bought and sold are equal, at new equilibrium E'. (b) A shift in the demand curve leads to excess demand. Price will be bid up as equilibrium price and quantity move upward to E".

supplied, while simultaneously discouraging consumption and lowering quantity demanded. The price continues to rise until, at the new equilibrium price, the amounts demanded and supplied are once again equal.

As Figure 3-8 (a) shows, the new equilibrium is found at E', the intersection of the new supply curve S'S' and the original demand curve. Thus a bad harvest (or any leftward shift of the supply curve) raises prices and, by the law of downward-sloping demand, lowers quantity demanded.

Suppose that new baking technologies lower costs and therefore increase supply. That means the supply curve shifts down and to the right. Draw in a new S"S" curve, along with the new equilibrium E'". Why is the equilibrium price lower? Why is the equilibrium quantity higher?

We can also use our supply-and-demand apparatus to examine how changes in demand affect the market equilibrium. Suppose that there is a sharp in crease in family incomes, so everyone wants to eat more bread. This is represented in Figure 3-8 (b) as a "demand shift" in which, at every price, consumers demand a higher quantity of bread. The demand curve thus shifts rightward from DD to D'D'.

The demand shift produces a shortage of bread at the old price. A scramble for bread ensues, with long lines in the bakeries. Prices are bid upward until supply and demand come back into balance at a higher price. Graphically, the increase in demand has changed the market equilibrium from E to E" in Figure 3-8 (b).

For both examples of shifts—a shift in supply and a shift in demand—a variable underlying the demand or supply curve has changed. In the case of supply, there might have been a change in technology or input prices. For the demand shift, one of the influences affecting consumer demand—incomes, population, the prices of related goods, or tastes—changed and thereby shifted the demand schedule (see Table 3-6).

Demand and supply shifts

Effect on price and quantity

If demand rises . . .

The demand curve shifts to the right,

Price T

and . . .

Quantity T

If demand falls . . .

The demand curve shifts to the left,

Price 4

and . . .

Quantity 4

If supply rises . . .

The supply curve shifts to the right,

Price 4

and . . .

Quantity T

If supply falls . . .

The supply curve shifts to the left,

Price T

and . . .

Quantity 4

TABLE 3-6. The Effect on Price and Quantity of Different Demand and Supply Shifts

TABLE 3-6. The Effect on Price and Quantity of Different Demand and Supply Shifts

When the elements underlying demand or supply change, this leads to shifts in demand or supply and to changes in the market equilibrium of price and quantity.

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