Question

Suppose the market for gourmet chocolate is in long-run equilibrium, and an economic downturn has reduced consumer discretionary incomes. Assume chocolate is a normal good, and the chocolate producers have identical cost structures. a. What will happen to demand-shift right, shift left, no shift? b. What will happen to profits for chocolate producers in the short run- increase, decrease, or no change? c. What will happen to the short-run supply curve-increase, decrease, or no change? d. What will happen to the long-run supply curve-increase, decrease, or no change?

Short answer

a) Demand shifts left; b) Short-run profits decrease; c) Short-run supply curve doesn't shift; d) Long-run supply curve shifts left.

Step-by-step solution

Analyze the impact of decreased income on demand

Since chocolate is a normal good, a decrease in consumer income will lead to a decrease in demand. Normal goods are those for which demand rises as consumer income rises and falls as it decreases.

Determine the impact on short-run demand curve

With the decrease in consumer discretionary incomes, the demand curve will shift to the left. This is because consumers will buy less chocolate due to lower incomes, reducing the overall demand.

Assess the effect on short-run profits for producers

In the short run, the leftward shift of the demand curve will lead to lower prices and a decrease in the quantity of chocolate sold. This will reduce the revenue and profits of chocolate producers in the short run.

Evaluate the short-run supply curve reaction

In the short-run, the supply curve won't move, as the producers' cost structures are unchanged. However, the quantity supplied may decrease due to lower market prices.

Consider long-run adjustments

In the long-run, chocolate producers may exit the market due to prolonged low profitability, causing the supply curve to shift to the left until a new equilibrium is reached.

Key concepts

Normal Good

In economics, a normal good is a type of product whose demand is directly related to consumer income levels. This means when consumer incomes increase, the demand for normal goods rises, and conversely, demand decreases when incomes fall. Gourmet chocolate is considered a normal good because as people earn more, they tend to indulge in high-quality treats like gourmet chocolates.

• With higher income, consumers are willing to spend more on luxury and premium goods.
• Conversely, when incomes decrease—as in an economic downturn—the demand for non-essential items like gourmet chocolate decreases.

In essence, consumers prioritize necessities over luxury items when their financial resources are limited.

Demand Curve

The demand curve visually represents the relationship between the price of a good and the quantity demanded by consumers. It's typically drawn as a downward sloping line on a graph, indicating that as the price decreases, the quantity demanded increases, and vice versa.
In our scenario of the gourmet chocolate market:

• The decline in consumer income leads to fewer purchases of chocolate, causing the demand curve to shift to the left.
• This shift reflects a decrease in demand at every price point, not just a movement along the curve.

With less disposable income, consumers buy less chocolate, demonstrating how shifts in the demand curve show changes in the overall purchasing behavior.

Supply Curve

The supply curve illustrates the relationship between the price of a good and the quantity supplied by producers. It typically slopes upward, indicating that as prices rise, producers are willing to supply more of the product to meet higher potential profits.
However, in the short run, the supply curve is affected differently by market changes because producers often have fixed costs and capacity limitations.

• Even if consumer demand decreases, the producers' cost structures don't change immediately, thus the short-run supply curve remains static.
• However, the quantity of chocolate supplied to the market may decline due to reduced demand and lower prices.

Over the long run, sustained low demand and profits could lead producers to adjust their business strategies, which might shift the supply curve as producers exit the market.

Consumer Income Effect

The consumer income effect describes how a change in income levels impacts the quantity demanded of a good. This effect helps explain the dynamics of demand fluctuations in response to income changes.

• For a normal good like chocolate, as consumer incomes decrease, the quantity demanded decreases too.
• This results in a leftward shift of the demand curve, as consumers with less disposable income prioritize essential spending over luxury purchases.

Understanding the consumer income effect is crucial for businesses as it influences pricing strategies and market positioning, especially during periods of economic shifts.