Question

In recent years, technological improvements have greatly reduced the costs of producing basic cell phones, and a number of new firms have entered the cell phone industry. At the same time, prices of substitutes for cell phones, such as smartphones and some tablet devices, have declined considerably. Construct a supply and demand diagram of the market for cell phones. Illustrate the impacts of these developments, and evaluate the effects on the market price and equilibrium quantity.

Short answer

Supply increases and demand shifts left, leading to a fall in equilibrium price.

Step-by-step solution

Step1. Given information

Cost of production decreased.

Demand for substitutes increased.

Demand is the amount of goods required or asked by the people in that economy.

Supply is the amount of goods given or available in an economy.

Step2. Explanation

Improved technological means and ways of production implies and tends to lower down the cost of production. This means I can produce more by incurring the same cost as initial. The question also states that new firms have entered into the market. They will contribute to the supply hence the supply curve shall shift rightward. This means that at the prevailing prices, supply increases.

Since, the demand for substitute good has increased, the demand for cell phone shall reduce.

Hence, it can be concluded that the supply curve will be shifting to the right and demand will be shifting to the left.

Step3. Graphical representation

Case 1: When both demand supply shift in same proportion

This leads to a fall in price, but same equilibrium quantity.

Case 2: When demand changes by greater proportion than supply

This results in fall in equilibrium price and quantity both.

Case 3: When supply changes by greater proportion than demand

This results in increased equilibrium quantity but reduced price.