Homework 2 :

Instruction: Your answers should be typewritten and should be

submitted through a link provided on Canvas. In order to get the full
grade, you need to show and explain your work in full.

1. Suppose we are analyzing the market for hot chocolate. Graphically

illustrate the impact each of the following would have on demand or
supply. Also show how equilibrium price and equilibrium quantity
would change. Explain your answer fully.

● Winter starts, and the weather turns sharply colder

=> Demand Increases.In

colder weather, people want more hot chocolate. The demand curve will shift to
the right, causing the equilibrium market price and quantity to rise.
● The price of tea, a substitute for hot chocolate, falls.

=> Demand Decreases.Tea and

hot chocolate are acceptable substitutes. When the price of tea falls, the demand
curve for hot chocolate shifts to the left.Equelium price and the price and quantity
of hot chocolate will fall.

● The price of cocoa beans decreases.

=> The Supply

Increases.Because cocoa beans are an important ingredient in hot chocolate, a
decrease in cocoa bean prices causes the supply curve of hot chocolate to shift
to the right. The equilibrium price will fall while the equilibrium quantity will rise.
 ● The price of whipped cream falls.

=> The Demand Increases.Whipped

cream and hot chocolate are common accompaniments for many people. If the price of
whipped cream falls, the demand curve for hot chocolate shifts to the right, increasing
the equilibrium price and quantity of hot chocolate.

● A better method of harvesting cocoa beans is introduced.

=> The Supply Increases. Because

of this technological advancement, the supply curve for cocoa beans will shift to
the right, lowering the equilibrium price of cocoa beans, an ingredient in hot
chocolate. The hot chocolate supply curve will shift to the right, lowering the
equilibrium price and increasing the equilibrium quantity.
 ● The Surgeon General of the U.S. announces that hot chocolate
cures acne.

=> The Demand

Increases.Consumers will prefer more hot chocolate as a result of the Surgeon
General's announcement, and the demand curve will shift to the right. Price and quantity
will rise in equilibrium.

● Protesting farmers dump millions of gallons of milk, causing the

price of milk to rise.

=> The Supply Decreases. A rise in

the price of milk raises the cost of producing hot chocolate, reducing its supply. As a
result, the supply curve shifts to the left. The equilibrium price rises while the equilibrium
quantity falls.
 ● Consumer income falls because of a recession, and hot
chocolate is considered a normal good.

=> The Demand

Decreases.Because hot chocolate is a normal good, when consumer income
falls, the demand curve shifts to the left. Price and quantity will fall in equilibrium.

● Producers expect the price of hot chocolate to increase next

month.

=> The Demand Increases.

Because Producers anticipate that the price of hot chocolate will rise next month,
consumers will buy more now even though prices will rise. As a result, the demand
curve will slant to the right. This will result in an increase in both price and quantity in
equillium.
 ● Currently, the price of hot chocolate is $0.50 per cup above
equilibrium.

=> A price above equilibrium

affects both the quantity demanded and the quantity supplied, resulting in a
market surplus. It will have no effect on either demand or supply.

2.Using the midpoint method, compute the elasticity of demand

between points A and B. Is demand along this portion of the curve
elastic or inelastic? Interpret your answer with regard to price and
quantity demanded. Now compute the elasticity of demand between
points B and C. Is demand along this portion of the curve elastic or
inelastic? Show your work in full
Points A and B :

=> The Price elasticity of demand = % change in quantity demanded / % change in

price.

=> (Q2-Q1)/(Q2+Q1)/2/(P2-P1)/(P2+P1)/2

=> Q1= 100

=> Q2 = 300
=>P1 = $18
=>P2 = $12

=> (300-100)/(300+100)/2/(12-18)/(12+18)/2
=> 200/200/-6/15
=>200/200*-15/6
=> -2.5

=> The absolute value of elasticity of demand = 2.5

=> Since the value of elasticity of demand is more than 1, it is elastic.
=> Which means that in every percentage change in price there is 2.5% change in
quantity demanded.

Points B and C :

=> The Price elasticity of demand = % change in quantity demanded / % change in

price.

= > (Q2-Q1)/(Q2+Q1)/2/(P2-P1)/(P2+P1)/2

=> Q1= 300

=> Q2 = 500
=>P1 = $12
=>P2 = $6

=> (500-300)/(500+300)/2/(6-12)/(6+12)/2
=> 200/400/-6/9
=>200/400*-9/6
=> 0.75

=> The absolute value of elasticity of demand = 0.75

=> Since the value of elasticity of demand is less than 1, it is inelastic.
=> Which means that in every percentage change in price there is 0.75% change in
quantity demanded.