What happens if...
We have now examined the results of our combined analyses of both buyers and sellers and introduced the concept of equilibrium. Now it is time to put the analysis to work. Let's see how we could use the analysis to forecast the impact of a few external shocks. More specifically, let's look at what happens when:
For questions like this I suggest the cookbook approach.
Step1. In this problem where we know the market participants, so we need to begin by noting what participants are most directly affected by each external shock. In this example, if energy costs increase, this will most directly affect the supply. If you are not convinced, ask yourself the last time you had your decision affected by energy cost changes. I suspect that you do not even know when energy costs are changed.
Step2. What will be the effect of the shock on supply? Will it increase supply (shift out) or decrease supply (shift in). In this case where we have higher production costs, the impact would be an inward shift in the curve.
Step3. It is now time to see what this external shock will do to the 'market?' As you can see from the graph, at the existing price we have a shortage which will put upward pressure until we have once again achieved an equilibrium (intersection). The new intersection is above and to the left of the original equilibrium which means that the decrease in supply will produce a higher equilibrium price and lower equilibrium quantity.
What about the second shock-the university gets some good national press? Once again we follow the cookbook approach.
Step1. The PR will have a direct impact on demanders, on the individuals looking for spaces at the university.
Step2. We would expect to see the increase PR have a positive effect on demand. The result will be an outward shift in the demand curve.
Step3. It is now time to see what this external shock will do to the 'market?' As you can see from the graph, at the existing price we have a shortage which will put upward pressure until we have once again achieved an equilibrium (intersection). The new intersection is above and to the right of the original equilibrium which means that the increase in demand will produce a higher equilibrium price and higher equilibrium quantity.
You are now on your own to try the third external shock. You should be able to convince yourself that it the result of more high school grads will be an increase in demand. You may want to review some of the material in the outline section, or you may want to move to the review quiz to see how you have mastered the material.