Answer to Question #174756 in Microeconomics for Nitin

Question

During the Covid-19 pandemic, the Ayurvedic medicines have an inelastic demand and 

electronic devices have an elastic demand. Imagine that technological advancement 

doubles the supply of both products (i.e. quantity supplied at each price is twice as it was 

earlier)

i. What will be the equilibrium price and quantity in each market?

ii. Which product experiences a larger change in price and which product experiences

larger change in quantity. (9)

b. Do you agree with this statement, MC curve crosses the ATC curve at its minimum?

Why? (4)

c. How does an increase in interest rate affects household savings? Explain with the help of 

an example with graph

Answer 1

The equilibrium in a market occurs where the quantity supplied in that market is equal to the quantity demanded in that market. Therefore, we can find the equilibrium by setting supply and demand equal and then solving for P.

i.                    What will be the equilibrium price and quantity in each market?

Equilibrium price =          quantity supplied equals quantity demanded

Therefore the equilibrium price will be equal in both markets.

ii.                  Which product experiences a larger change in price and which product experiences larger change in quantity?

The product that experiences a larger change in price is medicine, while the product that will experience a larger change in quantity are electronic devices..

b. Do you agree with this statement, MC curve crosses the ATC curve at its minimum? Yes. I agree with the statement.

Why? Because the Marginal cost (MC) is the extra cost incurred when one extra unit of output is produced. Average product (AC) is the total cost per unit of output. When the MC is smaller the AC, the AC decreases. This is because when the extra unit of output is cheaper than the average cost then the AC is pulled down. Similarly, when the MC is greater than the AC, the AC is pulled up. The point of intersection between the MC and AC curves is also the minimum of the AC curve. This can be explained by the fact that when the cost of the marginal output is equal to the average cost of the output, then the AC neither falls nor rises.

c. How does an increase in interest rates affect household savings? Explain with the help of an example with graph

Interest rates determine the amount of interest payments that savers will receive on their deposits. An increase in interest rates will make saving more attractive and should encourage saving. A cut in interest rates will reduce the rewards of saving and will tend to discourage saving