You are on page 1of 7

Change in Equilibrium with Multiple Market Shifters

These are notes about how changes in the market will affect equilibrium (price and
quantity). I will first give some examples when only one factor changes (only one curve
shifts). Then I will discuss the more complicated case when two factors change at once,
and provide a couple examples.

One Shifter
In class I gave the following steps for determining the change in equilibrium caused by a
market shifter.

Step 0: Identify the initial equilibrium.


Step 1: Determine if the change is a demand or supply shifter.
Step 2: Determine which direction this shifter moves the particular curve (justify
assumptions).
Step 3: Note the new equilibrium & how P* and Q* have changed.

Example: (Market for Big Macs)

Step 0:

Market for Big Macs


P
S1

P 1*

D1
Q
Q1*

1
Change 1: Due to sanitary conditions, a large portion of cattle stock is considered un-
edible (price of existing cattle increases).

Step 1: Supply shifter – price of input increases


Step 2: Negative shifter, supply decreases
Step 3:

Market for Big Macs


P
S1

P 2*

P 1*

S2
D1
Q
Q2* Q1*

P2*> P1* and Q2*< Q1*

2
Change 2: A consumer’s income increases

Step 1: Demand shifter – income


Step 2: Must state assumption: normal or inferior good
Either is fine, but must state it
Say Big Macs are normal goods, positive shifter, Demand increases
Step 3:

Market for Big Macs


P
S1

P 2*
P 1*

D2
D1
Q
Q1* Q2*

P2*> P1* and Q2*> Q1*

Two Shifters
Now let’s suppose two factors change at the same time. We can still use the same
process as above, but now steps 1 & 2 will involve analysis of multiple shifts. Also, step
3 is a little more complicated. We can see this by working an example.

Example 1: (Market for Televisions)


Step 0:
Market for Televisions
P
S1

P 1*

D1
Q
Q1*

3
Suppose that: (a) The price of satellite service decreases dramatically
(b) Firms expect a major television producer to leave the market
next year

Step 1: (a) is Demand shifter – price related good


(b) is Supply shifter – expectations

Step 2: (a) is a positive shifter, price of complement good decreases, Demand


increases
(b) is a negative shifter, expected price increases (because in the future
there will be fewer suppliers, so future price is higher), current Supply
decreases

Step 3:

As I said above, this step can be a bit complicated. To see this, consider the two
following diagrams – both of which increase demand and decrease supply.

Market for Televisions (Diagram 1)


P
S1
P2*

P1*

S2
D2
D1
Q
Q1* Q2*

Market for Televisions (Diagram 2)


P
S1
P2*

P1*

S2
D2
D1
Q
Q2* Q1*

4
First, again notice that both of these diagrams satisfy the fact that Demand is increasing
and Supply is decreasing. Now notice that in both diagrams P2*> P1*. However, in
Diagram 1 Q2*> Q1* and in Diagram 2 Q2*< Q1*.

This is an example of:

An Important Fact: When both Demand and Supply shift one of the two possibilities
will occur:

The change in equilibrium price will be certain (either a definite increase or a definite
decrease) while the change in equilibrium quantity will be ambiguous (could be either an
increase, decrease or no change, depending on how much each curve is shifted).

OR

The change in equilibrium quantity will be certain (either a definite increase or a definite
decrease) while the change in equilibrium price will be ambiguous (could be either an
increase, decrease or no change, depending on how much each curve is shifted).

To see that in the above example (Demand increasing, Supply decreasing) that
equilibrium price will definitely increase, while change in equilibrium quantity will be
ambiguous, consider each curve shift individually.

Change in Curve Change in P* Change in Q*


Increase in Demand Increase Increase
Decrease in Supply Increase Decrease
Overall Change Increase Ambiguous

An increase in demand increases P*. A decrease in supply increases P*. Thus these two
shifts working together will increase P*.

An increase in demand increases Q*. A decrease in supply decreases Q*. When we


combine these two shifts, the result is uncertain (ambiguous). It depends on which curve
shifts more – demand or supply. It is possible to have Q* either increase, decrease or
remain the same (all of these cases can be drawn).

When working problems such as this, be sure to say if P* or Q* either changes with
certainty (then say if it increases or decreases) or if the change is ambiguous.

5
Example 2: (Market for Televisions)
Step 0:
Market for Televisions
P
S1

P 1*

D1
Q
Q1*

Suppose that: (a) A conclusive study shows that TV really does rot the brain
(b) The prices of plastic, glass and electrical cords go up

Step 1: (a) is Demand shifter – tastes and preferences


(b) is Supply shifter – price of inputs

Step 2: (a) is a negative shifter, Demand decreases


(b) is a negative shifter, Supply decreases

Step 3:

One possibility for the new market:

Market for Televisions


P
S1

P1*

P2*
S2

D1
D2
Q
Q2* Q1*

6
We can see from this diagram that Q* definitely falls (Q2*< Q1*) but the change in P* is
ambiguous. This is because a decrease in supply and a decrease in demand both lead to a
lower Q*, while a decrease in supply pushes up P* and a decrease in demand pushes
down P*. When we combine these two effects, Q* will definitely fall, while the change
in P* is ambiguous.

Again, we can use a table to help see this:

Change in Curve Change in P* Change in Q*


Decrease in Demand Decrease Decrease
Decrease in Supply Increase Decrease
Overall Change Ambiguous Decrease