Price Changes (Copy)

2.6.1 Causes of Price Changes

Price changes occur when demand or supply shifts due to changes in market conditions.

Causes of Demand Shifts

• Income changes:
  • Higher income → more purchasing power → increase in demand → demand curve shifts right.
  • Lower income → less purchasing power → decrease in demand → demand curve shifts left.
• Tastes and preferences:
  • Advertising, trends, health concerns, cultural shifts.
• Price of substitutes:
  • If substitute price rises, demand for the good increases.
• Price of complements:
  • If complement price rises, demand for the good decreases.
• Expectations of future prices:
  • If consumers expect higher prices, they demand more now.

Causes of Supply Shifts

• Costs of production:
  • Higher wages/raw materials → higher costs → lower supply (shift left).
  • Lower costs → more supply (shift right).
• Technology:
  • Improved technology increases productivity → supply shifts right.
• Taxes and subsidies:
  • Taxes → reduce supply.
  • Subsidies → increase supply.
• Weather and natural factors:
  • Agriculture affected by droughts, floods, good harvest.
• Expectations of future prices:
  • If firms expect higher prices later, they may restrict supply now.

2.6.2 Consequences of Price Changes

• When demand or supply shifts, the equilibrium price (Pₑ) and quantity (Qₑ) change.
• Two main cases:
  • Demand shift: New equilibrium with higher/lower price & quantity.
  • Supply shift: New equilibrium with higher/lower price & quantity.

Case 1: Increase in Demand → Higher Price

Price
 |
 | 
 |          D₂
 |         /
 |        /
 |       /
 |------/-------- S
 |       /       
 |      /   D₁
 +------------------ Quantity
        Q₁   Q₂

• Demand shifts from D₁ → D₂.
• Equilibrium moves from (P₁, Q₁) → (P₂, Q₂).
• Result: Higher price and greater quantity traded.

Case 2: Decrease in Demand → Lower Price

Price
 |
 | 
 |     D₁
 |       
 |         
 |           
 |------X--------- S
 |     /  
 |    / D₂
 +------------------ Quantity
        Q₂  Q₁

• Demand shifts left (D₁ → D₂).
• Equilibrium price falls (P₁ → P₂).
• Quantity decreases.

Case 3: Increase in Supply → Lower Price

Price
 |
 | 
 |        D
 |        
 |----X---------- S₂
 |     
 |      
 |-------X-------- S₁
 +------------------ Quantity
        Q₁   Q₂

• Supply shifts right (S₁ → S₂).
• Price falls from P₁ → P₂.
• Quantity rises from Q₁ → Q₂.

Case 4: Decrease in Supply → Higher Price

Price
 |
 | 
 |        D
 |        
 |-------X--------- S₂
 |      /
 |     /
 |----X----------- S₁
 +------------------ Quantity
       Q₂   Q₁

• Supply shifts left (S₁ → S₂).
• Price rises from P₁ → P₂.
• Quantity falls.

Key Takeaways

• Price changes occur due to shifts in demand or supply.
• Demand shifts → affect both price and quantity in the same direction (more demand = higher price and quantity, less demand = lower price and quantity).
• Supply shifts → affect price and quantity in opposite directions (more supply = lower price, higher quantity; less supply = higher price, lower quantity).
• Diagrams are essential to show these shifts and consequences.