Question

As the price of gasoline rises, what should we expect to happen to the demand for big "gas-guzzling" cars? Illustrate with supply and demand curves.

Short answer

As gasoline prices rise, we can expect the demand for big gas-guzzling cars to decrease. This is because gasoline and cars are complementary goods, and the higher cost of gasoline makes these cars less attractive to consumers. The effect can be illustrated by a leftward shift of the demand curve. The new equilibrium point will show a lower quantity of big gas-guzzling cars being sold at a lower price. To illustrate this change, we can show the supply and demand curves before and after the increase in gasoline prices, highlighting the decreased demand for these cars.

Step-by-step solution

Understand the concept of complementary goods

Complementary goods are goods that are usually consumed together. In this case, gasoline and cars are complementary goods because you need gasoline to operate a car. When the price of a complementary good changes, it can affect the demand for the related good.

Draw the initial supply and demand curves

Before analyzing the effect of a rise in gasoline prices, we should draw the initial supply and demand curves for big gas-guzzling cars. To do this, place the quantity of cars on the horizontal axis (X-axis) and the price of cars on the vertical axis (Y-axis). The demand curve has a negative slope (because as the price of a good increases, the quantity demanded decreases). The supply curve has a positive slope (because as the price of a good increases, the quantity supplied increases).

Analyze the effect of a rise in gasoline prices on the demand for cars

When the price of gasoline increases, the cost of operating a big gas-guzzling car also increases. This makes these cars less attractive to consumers, and as a result, demand for these cars decreases. In terms of the demand curve, this can be illustrated as a leftward shift of the entire curve.

Identify the new equilibrium point

After the demand curve has shifted to the left due to the rise in gasoline prices, there will be a new equilibrium point where the new demand curve intersects the supply curve. This new equilibrium point will show a lower quantity of big gas-guzzling cars being sold at a lower price.

Illustrate the change in the market for big gas-guzzling cars

To summarize our findings, we should show the supply and demand curves before and after the increase in gasoline prices, as well as the initial and new equilibrium points. In doing so, we can clearly see the decreased demand for big gas-guzzling cars as a result of the higher gasoline prices.

Key concepts

Understanding Supply and Demand

Supply and demand is a fundamental concept in economics that describes how the quantity of a good is determined in a market.
At its core, the idea is based on how much of a product is available (supply) and how much of it is wanted (demand).

**Key attributes of supply and demand include:**

• Demand Curve: This shows the relationship between the price of a good and the quantity demanded by consumers. It typically slopes downwards, meaning as the price decreases, demand increases.
• Supply Curve: This represents the relationship between the price of a good and the quantity supplied by producers. It usually slopes upwards, indicating that as price increases, producers are willing to supply more.

In a market, these two curves intersect at a point known as the 'equilibrium point', where the quantity of goods supplied equals the quantity demanded.
Understanding this intersection helps us comprehend market dynamics, especially when external factors like price changes alter the demand or supply.

The Role of Complementary Goods

Complementary goods are products that are typically used together, meaning the demand for one affects the other.
A classic example is cars and gasoline since operating a car relies on gas. When there’s a change in the price of one complementary good, it directly impacts the demand for another.

**Here's how complementary goods interact:**

• Price Influence: If the price of gasoline rises, the cost of running cars increases, reducing their attractiveness to consumers. This leads to a decrease in demand for cars.
• Related Goods Demand: When there is a drop in the demand for big gas-guzzling cars, you might see changes in smaller car segments that are more fuel-efficient as consumers shift preferences.

Understanding complementary goods is crucial in predicting market shifts and consumer behavior, especially when determining investment and production strategies.

Finding the Equilibrium Point

The equilibrium point in a market is where the supply and demand curves intersect. It represents the balanced state where the quantity supplied equals the quantity demanded.
At this point, there is no inherent pressure for the price to change, as the market is at a stable state.

**Adjustments to equilibrium can occur due to:**

• Shifts in Demand Curve: When the demand for a product like big gas-guzzling cars decreases, perhaps due to rising gasoline prices, the demand curve shifts leftward.
• Market Response: As a result, the intersection with the supply curve occurs at a new point, often leading to a lower equilibrium price and quantity.

Understanding how equilibrium is affected by external factors, like changes in complementary goods prices, enables businesses and economists to predict and react more effectively to market changes.