Question

In the graph below, assume that the original demand and supply curves are given by D1 and S1 respectively. Locate the original equilibrium point, identifying both the original equilibrium price and quantity. Now assume that "demand decreases." How is this represented? Locate the new equilibrium point. What happens to the equilibrium price when demand decreases? What happens to the equilibrium quantity? Finally, discuss the idea of price as a rationing device in the context of this example.

Answer 1

The current equilibrium is shown by the point A with equilibrium price and quantity equal P1 and Q1 respectively. The decrease in demand will be shown by the leftward shift of the demand curve (shown by D2 curve) The new equilibrium will be at point B with P2 and Q2 being the the equilibrium price and quantity. The decrease in demand will lead to fall in the quantity.