Supply and Demand
2
1. One assumption of the supply and demand model is that all goods bought and sold are identical. Why do you suppose
economists commonly make this assumption? Does the supply and demand model lose its usefulness if goods are not
identical?
1. Economists make this assumption, along with many others, in order to capture the meaningful relationships of the
real world in simplified models. The models then can predict how variables within these relationships change in
response to economic factors. If goods are not identical, many predictions of the model will still prove to be correct.
However, we would be less confident in the predictions resting most heavily on that assumption.
2. List the assumptions of the supply and demand model. Then, for each assumption, give one example of a market in
which the assumption is satisfied, and one example of a market in which that assumption is not satisfied. Is it reason-
able to use the supply and demand model when assumptions are violated?
2. Assumption 1. We focus on supply and demand in a single market. This assumption is satisfied if we look at the
market for hotel rooms in Lincoln, Nebraska, which is likely to be independent of the market for hotel rooms in
other cities. This assumption is not satisfied if we look at the market for gold in Lincoln, Nebraska, which would be
dependent on gold’s global supply and demand.
Assumption 2. All goods sold in the market are identical. This assumption is satisfied if we look at the market
for a commodity such as crude oil. If we look at shoes, the fact that there are countless distinctions between different
types and styles of shoes means that the assumption is not satisfied.
Assumption 3. All goods sold in the market sell for the same price, and everyone has the same information. This
assumption is satisfied in a market such as retail gasoline stations. Although gas prices differ by a few cents per
gallon between retailers, they match one another within a fairly close range. And prices are visible to anyone in the
vicinity of the gas station. An example of a market where this assumption is not satisfied would be home furnishings.
A furniture item such as a desk, for example, could have a significant price range, with the price of the most expensive
desk being multiple times higher than that of an inexpensive one.
Assumption 4. There are many buyers and sellers in the market. This assumption is satisfied in the market for
fresh fruit, where there are many small orchards supplying produce and many consumers shopping for peaches,
apples, oranges, and pears. In contrast, the market for intercity passenger rail transportation in the United States has
only one seller: Amtrak. Such a market would not satisfy the assumption.
The supply and demand model can still be useful even when these four assumptions are not met, because the
basic economic relationships captured in the model apply even outside the boundaries of such assumptions.
*3. The demand for organic carrots is given by the following equation:
Q DO = 75 – 5PO + PC + 2I
where PO is the price of organic carrots, PC is the price of conventional carrots, and I is the average consumer income.
Notice how this isn’t a standard demand curve that just relates the quantity of organic carrots demanded to the price of
organic carrots. This demand function also describes how other factors affect demand—namely, the price of another
good (conventional carrots) and income.
a. Graph the inverse demand curve for organic carrots when PC = 5 and I = 10. What is the choke price?
b. Using the demand curve drawn in (a), what is the quantity demanded of organic carrots when PO = 5?
When PO = 10?
c. Suppose P C increases to 15, while I remains at 10. Calculate the quantity demanded of organic carrots. Show
the effects of this change on your graph and indicate the choke price. Has there been a change in the demand for
organic carrots, or a change in the quantity demanded of organic carrots?
1
Goolsbee2e_Solutions_Manual_Ch02.indd 1 30/09/15 9:33
, 2 Part 1 Basic Concepts
d. What happens to the demand for organic carrots when the price of conventional carrots increases? Are organic and
conventional carrots complements or substitutes? How do you know?
e. What happens to the demand for organic carrots when the average consumer’s income increases? Are carrots a
normal or an inferior good?
3. a. We begin with the demand equation and substitute Price
the given values for P C and I: ($/unit)
$20
Q DO = 75 – 5P O + P C + 2I
Q DO = 75 – 5P O + 5 + (2 × 10)
This simplifies to
Q DO = 100 – 5P O
To find the inverse demand curve, we want to rear-
range terms to express P as a function of Q: D
0
5P O = 100 – Q DO 100
Quantity of organic carrots
P O = 20 – 0.2Q DO
The choke price can be found by solving for the price that corresponds to a quantity demanded of zero:
P O = 20 – (0.2 × 0) = 20
b. Substitute 5 for P O in the demand function to find Q DO:
Q DO = 100 – 5P O = 100 – 5(5) = 75
Substitute 10 for P O in the inverse demand function to find Q DO:
P O = 20 – 0.2Q DO
10 = 20 – 0.2Q DO
10 = 0.2Q DO
50 = Q DO
c. We begin with the demand equation and substitute the given values for P C and I:
Q DO = 75 – 5P O + P C + 2I
Q DO = 75 – 5P O + 15 + (2 × 10)
This simplifies to
Q DO = 110 – 5P O
To find the inverse demand curve, we want to rearrange terms to express P as a function of Q:
5P O = 110 – Q DO
P O = 22 – 0.2Q DO
We can substitute 10 for the price of organic carrots to find the quantity demanded:
10 = 22 – 0.2Q DO
0.2Q DO = 12
Q DO = 60
We find the choke price by finding the price that would make quantity demanded equal to zero:
P O = 22 – 0.2Q DO
P O = 22 – (0.2 × 0) = 22
The demand for organic carrots has changed because the entire curve has shifted to the right.
Goolsbee2e_Solutions_Manual_Ch02.indd 2 30/09/15 9:33
, Supply and Demand Chapter 2 3
d. The demand for organic carrots has increased, shift- Price
ing the demand curve to the right. This shows that the ($/unit)
two goods are substitutes for one another, because an $22
increase in the price of conventional carrots has led to 20
a higher quantity of organic carrots demanded at any
given price.
e. There is a positive coefficient (+2) on the variable
10
for income. This means that an increase in income
will shift the demand for organic carrots to the right.
As a consequence, we know that organic carrots are a D1 D2
normal good.
0 50 60 100 110
Quantity of organic carrots
*4. Out of the following events, which are likely to cause the demand for coffee to increase? Explain your answers.
a. An increase in the price of tea
b. An increase in the price of doughnuts
c. A decrease in the price of coffee
d. The Surgeon General’s announcement that drinking coffee lowers the risk of heart disease
e. Heavy rains causing a record-low coffee harvest in Colombia
4. a. Since tea and coffee are the classic examples of substitutes, as the price of tea increases, the demand for coffee is
likely to increase.
b. An increase in the price of doughnuts decreases the quantity demanded of doughnuts. Because doughnuts and
coffee are complements, this will likely decrease the demand for coffee.
c. A decrease in the price of coffee will decrease the quantity demanded of coffee via a movement along the demand
curve.
d. The Surgeon General’s announcement will likely increase the number of people who are interested in drinking
coffee and, thus, increase the demand for coffee.
e. Heavy rain will decrease the supply of coffee. This can be shown as an inward shift of the supply curve. As a
result, the equilibrium price increases and the equilibrium quantity decreases. This adjustment is accomplished
via a movement along the demand curve.
5. How is each of the following events likely to shift the supply curve or the demand curve for fast-food hamburgers in
the United States? Make sure you indicate which curve (curves) is affected and if it shifts out or in.
a. The price of beef triples.
b. The price of chicken falls by half.
c. The number of teenagers in the economy falls due to population aging.
d. Mad cow disease, a rare but fatal medical condition caused by eating tainted beef, becomes common in the United
States.
e. The Food and Drug Administration publishes a report stating that a certain weight-loss diet, which encourages the
intake of large amounts of meat, is dangerous to one’s health.
f. An inexpensive new grill for home use that makes delicious hamburgers is heavily advertised on television.
g. The minimum wage rises.
5. a. An increase in the price of beef represents an increase in the cost of an input. This will cause the supply curve to
shift in as the production becomes more expensive.
b. Demand for fast-food hamburgers in the United States will likely shift in since many consumers see chicken and beef
as substitutes. As chicken becomes less expensive, more people will consume chicken and reduce their consumption
of hamburgers, resulting in a decrease in the demand for fast-food hamburgers.
c. The demand curve shifts in.
d. Consumers’ awareness of the mad cow disease shifts the demand for fast-food hamburgers in.
e. Fewer people will follow this diet, causing the demand curve to shift in.
f. As consumers purchase the advertised inexpensive new grill, they are more likely to prepare hamburgers at home.
Given that at-home hamburgers and fast-food hamburgers are likely to be substitutes in the minds of consumers,
the demand for fast-food hamburgers can be expected to shift in.
g. An increase in the minimum wage increases the supplier’s cost of production, which leads to a decrease in supply.
This is shown as a shifting in of the supply curve.
Goolsbee2e_Solutions_Manual_Ch02.indd 3 30/09/15 9:33
, 4 Part 1 Basic Concepts
6. The supply of wheat is given by the following equation:
Q SW = – 6 + 4P W – 2P C – P F
where Q SW is the quantity of wheat supplied, in millions of bushels; P W is the price of wheat per bushel; P C is the price
of corn per bushel; and P F is the price of tractor fuel per gallon.
a. Graph the inverse supply curve when corn sells for $4 a bushel and fuel sells for $2 a gallon. What is the supply
choke price?
b. How much wheat will be supplied at a price of $4? $8?
c. What will happen to the supply of wheat if the price of corn increases to $6 per bushel? Explain intuitively; then
graph the new inverse supply carefully and indicate the new choke price.
d. Suppose instead that the price of corn remains $4, but the price of fuel decreases to $1. What will happen to the
supply of wheat as a result? Explain intuitively; then graph the new inverse supply. Be sure to indicate the new
choke price.
6. a. We begin with the supply equation and substitute val- Price
ues for the price of corn and the price of tractor fuel: ($/unit) S
Q SW = – 6 + 4P W – 2PC – PF
Q SW = – 6 + 4P W – (2 × 4) – 2
Q SW = –16 + 4P W
$4
Now we rearrange terms to express price as a func-
tion of quantity supplied:
4P W = 16 + Q SW
Quantity
P W = 4 + 0.25Q SW
To find the price that would make quantity supplied equal to zero, substitute a zero for Q SW:
P W = 4 + (0.25 × 0) = 4
The supply choke price is 4.
b. Using the supply equation, when P W = 4:
Q SW = –16 + (4 × 4) = –16 + 16 = 0
When PW = 8:
Q SW = –16 + (4 × 8) = –16 + 32 = 16
c. Wheat and corn are substitutes in production, so an Price S2
increase in the selling price of corn that causes farm- ($/unit)
S1
ers to grow more corn will decrease the supply of
wheat. Start with the supply equation again, substi-
tuting the value of 6 for the price of corn and 2 for the
price of fuel: $5
Q SW = – 6 + 4P W – 2PC – PF 4
Q SW = – 6 + 4P W – (2 × 6) – 2
Q SW = –20 + 4P W
Quantity
Convert this to an inverse supply function by express-
ing price as a function of quantity:
Q SW = –20 + 4P W
4P W = 20 + Q SW
P W = 5 + 0.25Q SW
The price that would make Q SW equal to zero is 5. This is the supply choke price.
Goolsbee2e_Solutions_Manual_Ch02.indd 4 30/09/15 9:33
2
1. One assumption of the supply and demand model is that all goods bought and sold are identical. Why do you suppose
economists commonly make this assumption? Does the supply and demand model lose its usefulness if goods are not
identical?
1. Economists make this assumption, along with many others, in order to capture the meaningful relationships of the
real world in simplified models. The models then can predict how variables within these relationships change in
response to economic factors. If goods are not identical, many predictions of the model will still prove to be correct.
However, we would be less confident in the predictions resting most heavily on that assumption.
2. List the assumptions of the supply and demand model. Then, for each assumption, give one example of a market in
which the assumption is satisfied, and one example of a market in which that assumption is not satisfied. Is it reason-
able to use the supply and demand model when assumptions are violated?
2. Assumption 1. We focus on supply and demand in a single market. This assumption is satisfied if we look at the
market for hotel rooms in Lincoln, Nebraska, which is likely to be independent of the market for hotel rooms in
other cities. This assumption is not satisfied if we look at the market for gold in Lincoln, Nebraska, which would be
dependent on gold’s global supply and demand.
Assumption 2. All goods sold in the market are identical. This assumption is satisfied if we look at the market
for a commodity such as crude oil. If we look at shoes, the fact that there are countless distinctions between different
types and styles of shoes means that the assumption is not satisfied.
Assumption 3. All goods sold in the market sell for the same price, and everyone has the same information. This
assumption is satisfied in a market such as retail gasoline stations. Although gas prices differ by a few cents per
gallon between retailers, they match one another within a fairly close range. And prices are visible to anyone in the
vicinity of the gas station. An example of a market where this assumption is not satisfied would be home furnishings.
A furniture item such as a desk, for example, could have a significant price range, with the price of the most expensive
desk being multiple times higher than that of an inexpensive one.
Assumption 4. There are many buyers and sellers in the market. This assumption is satisfied in the market for
fresh fruit, where there are many small orchards supplying produce and many consumers shopping for peaches,
apples, oranges, and pears. In contrast, the market for intercity passenger rail transportation in the United States has
only one seller: Amtrak. Such a market would not satisfy the assumption.
The supply and demand model can still be useful even when these four assumptions are not met, because the
basic economic relationships captured in the model apply even outside the boundaries of such assumptions.
*3. The demand for organic carrots is given by the following equation:
Q DO = 75 – 5PO + PC + 2I
where PO is the price of organic carrots, PC is the price of conventional carrots, and I is the average consumer income.
Notice how this isn’t a standard demand curve that just relates the quantity of organic carrots demanded to the price of
organic carrots. This demand function also describes how other factors affect demand—namely, the price of another
good (conventional carrots) and income.
a. Graph the inverse demand curve for organic carrots when PC = 5 and I = 10. What is the choke price?
b. Using the demand curve drawn in (a), what is the quantity demanded of organic carrots when PO = 5?
When PO = 10?
c. Suppose P C increases to 15, while I remains at 10. Calculate the quantity demanded of organic carrots. Show
the effects of this change on your graph and indicate the choke price. Has there been a change in the demand for
organic carrots, or a change in the quantity demanded of organic carrots?
1
Goolsbee2e_Solutions_Manual_Ch02.indd 1 30/09/15 9:33
, 2 Part 1 Basic Concepts
d. What happens to the demand for organic carrots when the price of conventional carrots increases? Are organic and
conventional carrots complements or substitutes? How do you know?
e. What happens to the demand for organic carrots when the average consumer’s income increases? Are carrots a
normal or an inferior good?
3. a. We begin with the demand equation and substitute Price
the given values for P C and I: ($/unit)
$20
Q DO = 75 – 5P O + P C + 2I
Q DO = 75 – 5P O + 5 + (2 × 10)
This simplifies to
Q DO = 100 – 5P O
To find the inverse demand curve, we want to rear-
range terms to express P as a function of Q: D
0
5P O = 100 – Q DO 100
Quantity of organic carrots
P O = 20 – 0.2Q DO
The choke price can be found by solving for the price that corresponds to a quantity demanded of zero:
P O = 20 – (0.2 × 0) = 20
b. Substitute 5 for P O in the demand function to find Q DO:
Q DO = 100 – 5P O = 100 – 5(5) = 75
Substitute 10 for P O in the inverse demand function to find Q DO:
P O = 20 – 0.2Q DO
10 = 20 – 0.2Q DO
10 = 0.2Q DO
50 = Q DO
c. We begin with the demand equation and substitute the given values for P C and I:
Q DO = 75 – 5P O + P C + 2I
Q DO = 75 – 5P O + 15 + (2 × 10)
This simplifies to
Q DO = 110 – 5P O
To find the inverse demand curve, we want to rearrange terms to express P as a function of Q:
5P O = 110 – Q DO
P O = 22 – 0.2Q DO
We can substitute 10 for the price of organic carrots to find the quantity demanded:
10 = 22 – 0.2Q DO
0.2Q DO = 12
Q DO = 60
We find the choke price by finding the price that would make quantity demanded equal to zero:
P O = 22 – 0.2Q DO
P O = 22 – (0.2 × 0) = 22
The demand for organic carrots has changed because the entire curve has shifted to the right.
Goolsbee2e_Solutions_Manual_Ch02.indd 2 30/09/15 9:33
, Supply and Demand Chapter 2 3
d. The demand for organic carrots has increased, shift- Price
ing the demand curve to the right. This shows that the ($/unit)
two goods are substitutes for one another, because an $22
increase in the price of conventional carrots has led to 20
a higher quantity of organic carrots demanded at any
given price.
e. There is a positive coefficient (+2) on the variable
10
for income. This means that an increase in income
will shift the demand for organic carrots to the right.
As a consequence, we know that organic carrots are a D1 D2
normal good.
0 50 60 100 110
Quantity of organic carrots
*4. Out of the following events, which are likely to cause the demand for coffee to increase? Explain your answers.
a. An increase in the price of tea
b. An increase in the price of doughnuts
c. A decrease in the price of coffee
d. The Surgeon General’s announcement that drinking coffee lowers the risk of heart disease
e. Heavy rains causing a record-low coffee harvest in Colombia
4. a. Since tea and coffee are the classic examples of substitutes, as the price of tea increases, the demand for coffee is
likely to increase.
b. An increase in the price of doughnuts decreases the quantity demanded of doughnuts. Because doughnuts and
coffee are complements, this will likely decrease the demand for coffee.
c. A decrease in the price of coffee will decrease the quantity demanded of coffee via a movement along the demand
curve.
d. The Surgeon General’s announcement will likely increase the number of people who are interested in drinking
coffee and, thus, increase the demand for coffee.
e. Heavy rain will decrease the supply of coffee. This can be shown as an inward shift of the supply curve. As a
result, the equilibrium price increases and the equilibrium quantity decreases. This adjustment is accomplished
via a movement along the demand curve.
5. How is each of the following events likely to shift the supply curve or the demand curve for fast-food hamburgers in
the United States? Make sure you indicate which curve (curves) is affected and if it shifts out or in.
a. The price of beef triples.
b. The price of chicken falls by half.
c. The number of teenagers in the economy falls due to population aging.
d. Mad cow disease, a rare but fatal medical condition caused by eating tainted beef, becomes common in the United
States.
e. The Food and Drug Administration publishes a report stating that a certain weight-loss diet, which encourages the
intake of large amounts of meat, is dangerous to one’s health.
f. An inexpensive new grill for home use that makes delicious hamburgers is heavily advertised on television.
g. The minimum wage rises.
5. a. An increase in the price of beef represents an increase in the cost of an input. This will cause the supply curve to
shift in as the production becomes more expensive.
b. Demand for fast-food hamburgers in the United States will likely shift in since many consumers see chicken and beef
as substitutes. As chicken becomes less expensive, more people will consume chicken and reduce their consumption
of hamburgers, resulting in a decrease in the demand for fast-food hamburgers.
c. The demand curve shifts in.
d. Consumers’ awareness of the mad cow disease shifts the demand for fast-food hamburgers in.
e. Fewer people will follow this diet, causing the demand curve to shift in.
f. As consumers purchase the advertised inexpensive new grill, they are more likely to prepare hamburgers at home.
Given that at-home hamburgers and fast-food hamburgers are likely to be substitutes in the minds of consumers,
the demand for fast-food hamburgers can be expected to shift in.
g. An increase in the minimum wage increases the supplier’s cost of production, which leads to a decrease in supply.
This is shown as a shifting in of the supply curve.
Goolsbee2e_Solutions_Manual_Ch02.indd 3 30/09/15 9:33
, 4 Part 1 Basic Concepts
6. The supply of wheat is given by the following equation:
Q SW = – 6 + 4P W – 2P C – P F
where Q SW is the quantity of wheat supplied, in millions of bushels; P W is the price of wheat per bushel; P C is the price
of corn per bushel; and P F is the price of tractor fuel per gallon.
a. Graph the inverse supply curve when corn sells for $4 a bushel and fuel sells for $2 a gallon. What is the supply
choke price?
b. How much wheat will be supplied at a price of $4? $8?
c. What will happen to the supply of wheat if the price of corn increases to $6 per bushel? Explain intuitively; then
graph the new inverse supply carefully and indicate the new choke price.
d. Suppose instead that the price of corn remains $4, but the price of fuel decreases to $1. What will happen to the
supply of wheat as a result? Explain intuitively; then graph the new inverse supply. Be sure to indicate the new
choke price.
6. a. We begin with the supply equation and substitute val- Price
ues for the price of corn and the price of tractor fuel: ($/unit) S
Q SW = – 6 + 4P W – 2PC – PF
Q SW = – 6 + 4P W – (2 × 4) – 2
Q SW = –16 + 4P W
$4
Now we rearrange terms to express price as a func-
tion of quantity supplied:
4P W = 16 + Q SW
Quantity
P W = 4 + 0.25Q SW
To find the price that would make quantity supplied equal to zero, substitute a zero for Q SW:
P W = 4 + (0.25 × 0) = 4
The supply choke price is 4.
b. Using the supply equation, when P W = 4:
Q SW = –16 + (4 × 4) = –16 + 16 = 0
When PW = 8:
Q SW = –16 + (4 × 8) = –16 + 32 = 16
c. Wheat and corn are substitutes in production, so an Price S2
increase in the selling price of corn that causes farm- ($/unit)
S1
ers to grow more corn will decrease the supply of
wheat. Start with the supply equation again, substi-
tuting the value of 6 for the price of corn and 2 for the
price of fuel: $5
Q SW = – 6 + 4P W – 2PC – PF 4
Q SW = – 6 + 4P W – (2 × 6) – 2
Q SW = –20 + 4P W
Quantity
Convert this to an inverse supply function by express-
ing price as a function of quantity:
Q SW = –20 + 4P W
4P W = 20 + Q SW
P W = 5 + 0.25Q SW
The price that would make Q SW equal to zero is 5. This is the supply choke price.
Goolsbee2e_Solutions_Manual_Ch02.indd 4 30/09/15 9:33
