Question

Suppose the government passed new legislation for stricter safety and fuel efficiency conditions on the manufacture of new automobiles. Draw a demand and supply diagram,then illustrate and briefly explain the effect of such legislation on the equilibrium price and the quantity of newly manufactured vehicles vis-a-vis the market for used vehicles.

Answer 1

In each graph, price (P) and quantity (Q) are shown along vertical and horizontal axes respectively. D0 and S0 are initial demand and supply curves, intersecting at point A. Initial equilibrium price is P0 and quantity is Q0.

(1) Newly manufactured vehicles

Stricter production conditions and safety requirements will increase production cost, so firms will reduce output. Supply curve shifts to left, increasing price and decreasing quantity. In following graph, S0 will shift leftward to S1, intersecting D0 at point B with higher price P1 and lower quantity Q1.

(2) Used vehicles

Higher price of new vehicles, a substitute for used vehicles, will increase the demand for used vehicles. Demand curve shifts to right, increasing price and increasing quantity. In following graph, D0 will shift rightward to D1, intersecting S0 at point B with higher price P1 and higher quantity Q1.