Answer to Question #223711 in Economics of Enterprise for Israt Jahan

Question

The price of coffee rose sharply last month, while the quantity sold remained the same. Five people suggest various explanations:

Leonard: Demand increased, but supply was perfectly inelastic. Sheldon: Demand increased, but it was perfectly inelastic.

Penny: Demand increased, but supply decreased at the same time. Howard: Supply decreased, but demand was unit elastic.

Raj: Supply decreased, but demand was perfectly inelastic. Who could possibly be right? Use graphs to explain your answer.

Answer 1

complete question The price of coffee rose sharply last month, while the quantity sold remained the same. Five people suggest various explanations: Leonard: Demand increased, but supply was perfectly inelastic. Sheldon: Demand increased, but it was perfectly inelastic. Penny: Demand increased, but supply decreased at the same time. Howard: Supply decreased, but demand was unit elastic. Raj: Supply decreased, but demand was perfectly inelastic. Who could possibly be right? Use graphs to explain your answer. 

solution

According to Leonard’s suggestion demand increases while supply is perfectly inelastic. This suggestion can be depicted in the graph below. In the diagram, the downward sloping curve represents the demand curve while the upward sloping curve parallel to the y-axis represents a perfectly inelastic supply curve. An increase in demand will lead to an upward shift in the demand curve from D to D1. Thus new equilibrium is attained at point E1 where equilibrium quantity sold is the same but the equilibrium price rises from P to P1.

According to Sheldon’s suggestion demand increases but demand is perfectly inelastic. This suggestion can be depicted in the graph below. The upward sloping curve is the supply curve represented by S while curve parallel to y-axis is perfectly inelastic demand curve represented by D. an increase in demand will shift the demand curve from D to D1. A new equilibrium point is attained at point E1 where the new demand curve and supply curve intersect. At point E1, the equilibrium quantity is Q1 and the equilibrium price is P1 where both Q1 and P1 are higher than the old equilibrium quantity Q and price P.

According to Penny’s suggestion demand increases while supply decreases at the same time. The diagram below depicts two curves labelled as S and D where S is the supply curve and D is the demand curve. An increase in the demand leads to an upward shift in the demand curve from D to D1 while a decrease in supply leads to a leftward shift in the supply curve from S to S1. The new equilibrium point E1 is attained when S1 and D1 intersect each other. The equilibrium quantity Q1 corresponding to E1 is the same as the initial equilibrium quantity. While the equilibrium price P1 corresponding to E1 is greater than P that is the initial equilibrium price.

Howard’s suggestion can be depicted in the graph below. The graph represents two curves where D is the unit elastic supply curve while S represents the supply curve. A decrease in the supply leads to a leftward shift of the supply curve from S to S1. The new equilibrium E1 is attained when S1 intersects D. At point E1, equilibrium quantity Q1 decreases from Q while equilibrium price rises from P to P1.

Raj’s suggestion is depicted in the graph below. With the perfectly inelastic demand curve (D), a decrease in supply will lead to a leftward shift in the supply curve from S to S1. A new equilibrium point E1 where the new supply curve and old demand curve intersect, the equilibrium quantity Q1 is equal to Q while equilibrium price P1 is higher than the initial price level P.

By the graphical representation of the suggestion of 5 individuals, Leonard, Penny and Raj suggestions seem to depict the situation where price increases but the quantity sold remains the same. Thus, Leonard, Penny, and Raj are the individual who could be possibly right.