Business Economics for Microeconomics
1. (a) Bagels and cream cheese are often eaten together, so they are complements. Suppose that the equilibrium price of cream cheese has risen but the equilibrium quantity of bagels has fallen. What could be responsible for this pattern – a rise in the price of flour or a rise in the price of milk? Illustrate and explain your answer with demand and supply diagram for bagel
(b) Suppose the government imposes a price floor on the bagel market to maintain bagel producers' income. Briefly explain to government why the policy would yield an inefficient outcome. Use the supply and demand model to illustrate your answer.
2. Boom-â€Energy is a manufacturer of energy-â€boosting products. The Board of Boom-â€Energy has hired you to investigate whether its Horse-â€Energy Bars and Choco Bars are complementary goods, substitute goods or there is no interdependence between the two goods. Using appropriate economic tools and terminology, explain how you would carry out your investigation.
Answer:
1 (a)
If the price of milk gets increased, the supply of cream cheese will be decreased. This will be mainly because the increase in the price of milk will lead to the increase in the price of cream cheese. As a result, only few people will purchase bagels and cream cheese and a lower equilibrium quantity of cream cheese will be exchanged in the market. The increase in the equilibrium price of cream cheese will lower the demand for bagels. As a result, the
price and quantity of bagels will also decrease (Varian 2014).
Figure 1: The increase in the price of milk decreased the supply of cream cheese
(Source: Created By Author)
The above diagram shows that the supply of cream cheese has decreased due to the increase in the price of milk.
Figure 2: Demand curve of bagel
(Source: Created By Author)
The diagram shows that the demand curve of bagel has shifted towards the left from D2 to D1 due to the increase in the price of its complementary good (cream cheese).
On the other hand, the increase in the price of flour will also lead to the decrease in the equilibrium quantity of bagels. However, it will not be able to explain the increase in the price of cream cheese (Berry et al. 2013).
1 (b)
A price floor will have an impact on the market if it is greater than the equilibrium price in the market. Price floors are the minimum price that is imposed by the government for certain products and services that they feel are being sold in the inequitable market. An inequitable market is the market where the products are sold at a very lower price. Since, the equilibrium of cream cheese had increased hence; price floor will proof to be incompetent (Dragusanu et al. 2014).
Figure 3: The price floor
(Source: Created By Author)
If the price floor is set above the market price, then there will be an excess supply and surplus in the market. This will yield an inefficient outcome if there is no sufficient demand as compared to the excess supply. The producers will gain only if their supply curve that is relatively elastic. The consumers are mostly affected, as they will be priced out of the market. In other words, they have to pay a higher price than before. As a result, the government will face a number of strategies for setting a price floor. Price floor will make it impossible for the producers to sell their goods at the unrestrained price. As a result, the producers starts competing by incompetently increasing the quality of the goods (Schlee 2013).
2.
The substitute goods are those goods that can be used in the place of another good to meet the demand of a customer. Demand for a given product varies directly with the price of the substitute product. In this case, after carrying out the investigation it has been found that Horse-Energy bars and the Choco bars are substitute goods. Both the goods are grouped in the similar category and they accomplish the same basic function. As a result, the increase in the price of Horse-Energy Bars will lead to the increase in the demand of the Choco bars (Rosato 2013).
Figure 4: The substitute goods
(Source: Created By Author)
The graph shows that the demand of Choco Bars will increase with the rise in the price of Horse-Energy. The price of Horse-Energy is represented in the Y-axis and the quantity of Choco bars is represented in the X-axis. Both the goods are elastic goods that is they have elastic demand. Hence, the customers are very sensitive to the change in the price (Patinkin 2013).
Figure 5: The price and quantity of Horse-Energy
(Source: Created By Author)
In both the diagrams, it can be seen that the major variable that shifts the demand curve is the price of the related goods. On the other hand, if the price of Horse-Energy decreases, then the demand of Choco Bars will also increase. This is because the preference of the customers will due to the change in price.
References
Berry, S., Gandhi, A. and Haile, P., 2013. Connected substitutes and invertibility of demand. Econometrica, 81(5), pp.2087-2111.
Dragusanu, R., Giovannucci, D. and Nunn, N., 2014. The economics of fair trade. The Journal of Economic Perspectives, 28(3), pp.217-236.
Patinkin, D., 2013. The role of the “liquidity trap” in Keynesian economics.PSL Quarterly Review, 26(108).
Rosato, A., 2013. Selling substitute goods to loss-averse consumers: Limited availability, bargains and rip-offs.
Schlee, E.E., 2013. Surplus maximization and optimality. The American Economic Review, 103(6), pp.2585-2611.
Varian, H.R., 2014. Intermediate Microeconomics: A Modern Approach: Ninth International Student Edition. WW Norton & Company.
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