Answer to Question #200258 in Microeconomics for Rajeshwar

Question

The demand and supply curve of good B is linear and B is normal good. A is an input used to produce good B and the price of A increases.

(a) Illustrate the effects of this shock on a graph. Properly label all curves and axes.

(b) As a results of this shock, price and quantity will

(I) Increase, increase

(II) Decrease, decrease

(III) Increase, decrease

(IV) Remain same.

Answer 1

(a) An increase in price of the input used to produce good B will result to the following graph:

When the price of input A used to produce good B increases, the profit margin of the producer falls, forcing the producer to produce less quantity of good B at the given price. The supply curve will shift to the left, from S1 to S2 as shown on the graph above.

As in the graph, initially the producer was producing 0Q1 quantity at 0P1 price, if the price of factor input increases, the producer will now be willing to produce less quantity say 0Q2 at same price. This means that the supply curve will shift leftwards.

(b) As a result of this shock, price of good B will increase while the quantity supplied will decrease.