Question

A couple of months after Hurricane Katrina in \(2005,\) an article in The New York Times contained the following passage: "Gasoline prices-the national average is now \(2.15,\)dollar according to the Energy Information Administration-have fallen because higher prices held down demand and Gulf Coast supplies have been slowly restored." statement about supply is entirely correct and explains why gas prices came down. But the statement about demand confuses two concepts you learned about in this chapter. a. What two concepts does the statement about demand seem to confuse? Explain briefly. b. On a supply-and-demand diagram, show what most likely caused gasoline prices to rise when Hurricane Katrina shut down gasoline refineries on the Gulf Coast. c. On another supply-and-demand diagram, show what most likely happened in the market for gasoline as Gulf Coast refineries were repairedand began operating again - after the hurricane. d. What role did the demand side of the market play in explaining the rise and fall of gas prices?

Short answer

The statement about demand seems to confuse 'demand' with 'quantity demanded'. Higher prices reduce the quantity demanded, not demand itself. When Hurricane Katrina shut down refineries, the supply of gas decreased causing prices to rise (shown as a leftward shift in the supply curve). When refineries were repaired, supply increased and prices fell (shown as a return to the original supply curve). While the hurricane directly impacted the supply side, the demand side played a role through consumers' reactions to price changes.

Step-by-step solution

Identify the Confused Concepts

The statement seems to conflate the concepts of 'demand' and 'quantity demanded'. 'Demand' refers to the overall desire for a good at varying price points, encompassing an entire demand curve. 'Quantity demanded', however, refers to the specific amount desired at a particular price -- a single point on the demand curve. Higher prices don't reduce demand; they reduce the quantity demanded.

Illustration of Initial Supply Shock (Supply-And-Demand Diagram)

To illustrate the initial effect of Hurricane Katrina on the gasoline market: 1. Draw a standard supply-and-demand graph with Quantity on the x-axis, Price on the y-axis, an upward-sloping supply curve (S1), and a downward-sloping demand curve (D). 2. When the hurricane shut down refineries, this reduced the supply of gas. Show this by drawing a new supply curve (S2) to the left of the original one. 3. The intersection of the demand curve (D) and the new supply curve (S2) is at a higher point on the price axis, indicating that prices rose due to decreased supply.

Illustration of Supply Restoration (Supply-And-Demand Diagram)

To illustrate what happened when Gulf Coast refineries were repaired: 1. Draw a standard supply-and-demand graph with Quantity on the x-axis, Price on the y-axis, the previous supply curve (S2), and a demand curve (D). 2. With the repair of the refineries, the supply of gas increased. Show this by drawing the original supply curve (S1) again. 3. The intersection of the demand curve (D) and the original supply curve (S1) is back at the original price, indicating that prices fell as supply was restored.

Analysis of Demand's Influence on Prices

When Hurricane Katrina struck, it directly affected the supply side, but the demand side played a role in reacting to these changes. The initial increase in prices due to decreased supply could have led to a decrease in quantity demanded, with some consumers possibly deciding to adjust their consumption or seek alternatives. As prices normalized after supplies were restored, quantity demanded would increase back to its original level.