Question

Suppose that an increase in production costs decreases the supply of wheat, such that less wheat is supplied at each price level. The new equilibrium quantity (after the decrease in supply) is _____.

Answer 1

The correct answer is: "The new equilibrium quantity (after the decrease in supply) is SMALLER".

A supply function represents the quantity of a certain good or service that producers are willing to offer at different price levels. The law of supply states that there is an direct relationship between price and quantity supply (ceteris paribus, hence, given that the rest remains equal).

In this case another factor intervenes, an increase in the costs of production. This scenario shifts the supply curve to the left (as the graph attached shows). The consequences of the shift on the equilibrium point (intersection between demand and supply curves), are the increase in the equilibrium price and the decrease in the equilibrium quantity .

Answer 2

The exercise gives us the information that wheat producers will supply a different amount at each price level.

In economic theory, the supply and demand for a good are adjustable by its price. For example, if price goes up, more producers will offer wheat, but consumers will buy less. With the fall in demand, the price of wheat also lowers.

The same reasoning can be used when increasing the cost of production leads to a decrease in the price of wheat. Demand will adjust to price. As there will be different levels of price, demand behavior will also be varied, up to balance.

For example, the producer initially offered 100kg of wheat at a price of $ 10. If the cost of production has increased, the producer will have two options: to increase the price or to reduce the supply. In the exercise, he prefers to decrease supply. Let's assume that the offer falls to 30kg at a price of $ 10. There will be a choked demand needing wheat.

Thus, with each price increase the producer will offer more. Using hypothetical examples:

If he charges $ 12, he can increase the offer to 60kg

If you charge $ 15,he can increase the offer to 120kg

If you charge $ 50,he can increase the offer to 1000kg

What will happen to the demand in these cases? It will fit the offer. Some consumers will buy when the price is $ 12. Then fewer consumers will buy for $ 15. But if it charges $ 50, maybe no consumer buys! This will cause price decrease, as explained in the Law of Supply and Demand.

Therefore, demand and supply are adjustable. For different prices, there will be different demands.