Question

Watch Out for Rising Dry-Cleaning Bills In the past year, the price of dry- cleaning solvent doubled. More than 4,000 dry cleaners across the United States disappeared as budget-conscious consumers cut back. This year the price of hangers used by dry cleaners is expected to double. Source: CNN Money, June 4, 2012 a. Explain the effect of rising solvent prices on the market for dry cleaning. b. Explain the effect of consumers becoming more budget conscious along with the rising price of solvent on the price of dry cleaning. c. If the price of hangers does rise this year, do you expect additional dry cleaners to disappear? Explain why or why not.

Short answer

Rising solvent prices decrease supply and increase prices. Budget-conscious consumers decrease demand, lowering quantity. Higher hanger prices will likely cause more dry cleaners to go out of business.

Step-by-step solution

- Understanding Solvent Price Increase

The price of dry-cleaning solvent has doubled. This makes the cost of providing dry-cleaning services higher for dry cleaners. The supply curve for dry-cleaning services will shift to the left because it is now more expensive to produce that service.

- Effect on Market for Dry Cleaning

When the supply curve shifts to the left, it indicates that at every price point, a smaller quantity of services is supplied. This causes the equilibrium price to increase and the equilibrium quantity to decrease. Therefore, the price of dry cleaning will rise and the amount of dry cleaning available will decrease.

- Impact of Budget-Conscious Consumers

Consumers are also becoming more budget-conscious. This change causes the demand curve for dry-cleaning services to shift to the left, meaning at every price point, a lower quantity of services is demanded.

- Combined Effect on Dry Cleaning Prices

With both supply and demand curves shifting to the left, the result could be an ambiguous effect on the equilibrium price. However, since supply is decreasing due to higher costs and demand is decreasing due to consumers cutting back, it’s very likely that the overall quantity of dry cleaning services will decrease.

- Price of Hangers Increasing

If the price of hangers doubles, the cost of business for dry cleaners increases even more. This pushes the supply curve further to the left, leading to higher prices and lower quantities unless the demand decreases proportionately.

- Further Disappearances of Dry Cleaners

With increased operational costs from both solvents and hangers, and reducing demand from budget-conscious consumers, it is very likely that more dry cleaners will go out of business. The overall business environment becomes unsustainable for some dry cleaners.

Key concepts

Supply and Demand

The concepts of supply and demand are fundamental in understanding market dynamics. Supply refers to how much of a product or service is available on the market, while demand refers to how much consumers want that product or service. When the price of dry-cleaning solvent doubled, it became more expensive to run a dry-cleaning business. This caused many dry cleaners to limit their services, effectively shifting the supply curve to the left.
If there are fewer dry cleaners and more expensive operations, the supply of dry-cleaning services decreases. Simultaneously, if consumers become more budget-conscious, they will likely demand fewer dry-cleaning services. A budget-conscious consumer may adopt home cleaning alternatives or reduce the frequency of dry-cleaning visits. Thus, the demand curve also shifts left.
When both supply and demand decrease, the overall market equilibrium changes. Fewer services are offered and fewer services are demanded. This interplay helps us realize how closely connected supply and demand are in determining market prices.

Price Elasticity

Price elasticity measures how much the quantity demanded or supplied of a good changes when its price changes. A product is elastic if a small price change significantly affects the quantity demanded or supplied. On the other hand, inelastic products experience little change in demand or supply with price changes.
In the case of dry cleaning, if the price of the solvent and hangers rises dramatically, the service becomes more expensive. Whether consumers will drastically cut back on dry-cleaning services depends on their price sensitivity. Since dry cleaning is somewhat a luxury or occasional service, it is likely more elastic.
This means that a noticeable increase in the prices due to higher solvent and hanger costs will lead to a significant reduction in demand. Hence, dry cleaners may experience a substantial decrease in business, potentially leading to more going out of operation.

Equilibrium Price

The equilibrium price in a market is where the quantity supplied equals the quantity demanded. At this price point, there is neither surplus nor shortage of the product.
With the rise in solvent prices, fewer dry-cleaning services can be supplied, shifting the supply curve to the left. Simultaneously, if customers become more budget-conscious, the demand for these services also decreases, shifting the demand curve left.
The new equilibrium will be at a lower quantity of services but could have a higher, lower, or unchanged price depending on the relative shifts of demand and supply.
If the supply decrease outpaces the demand decrease, the equilibrium price could rise. Conversely, if the demand decreases more significantly than the supply, the price can drop. In this case, the more likely outcome is a lower quantity of dry-cleaning services at varied potential new equilibrium prices.

Cost of Production

The cost of production includes all expenses necessary to create a product or service. For dry cleaners, significant costs include solvents, hangers, labor, rent, and utilities.
When the costs of essential items like solvents and hangers double, these increased expenses must be absorbed or passed on to consumers. Higher production costs shift the supply curve left as fewer quantities can be produced at each price level.
Dry cleaners facing higher expenses will either increase service prices or reduce their business operations. Both outcomes affect the overall market, potentially leading to fewer services being available and driving prices up if not balanced by an equivalent drop in demand.
The situation here exemplifies how rising production costs can directly reduce market supply and impact business sustainability, leading to potential market exits for cost-burdened providers.