Question

If supply is inelastic, will shifts in demand have a larger effect on equilibrium price or on quantity?

Short answer

In a situation where supply is inelastic, shifts in demand will have a larger effect on the equilibrium price compared to equilibrium quantity. This occurs because producers are unable to quickly adjust their production in response to changes in demand, resulting in more significant changes in price to reach a new equilibrium point, while the changes in quantity supplied remain relatively smaller.

Step-by-step solution

Understand Inelastic Supply

Inelastic supply occurs when the percentage change in the quantity supplied of a good or service is less than the percentage change in its price. This generally happens when producers cannot quickly or easily adjust the quantity they produce in response to changes in price. In this case, the supply curve will be steeper than for goods with elastic supply.

Analyze the Effect on Equilibrium Price

A shift in the demand curve (either to the right for increase or to the left for decrease) while the supply curve stays inelastic will have a significant effect on the equilibrium price depending on the direction of the shift. When demand increases, there will be a larger increase in price to reach new equilibrium since the inelastic supply can't respond quickly to the increased demand, leading to a higher price. Similarly, if demand decreases, the price will fall by a larger margin as producers are unable to decrease their production fast enough, causing the price to lower to reach a new equilibrium.

Analyze the Effect on Equilibrium Quantity

When the demand curve shifts while the supply curve is inelastic, there will be a smaller change in the equilibrium quantity compared to the price. This is because producers cannot respond quickly to changes in demand, and so the changes in quantity supplied are comparatively smaller than the changes in price. As a result, when demand increases, the equilibrium quantity will only see a slight increase, and when demand decreases, the equilibrium quantity will only see a slight decrease.

Conclusion

In a scenario where supply is inelastic, shifts in demand will have a larger effect on the equilibrium price compared to equilibrium quantity. The reason behind this is the limited ability of producers to respond quickly to changes in demand, leading to more significant adjustments in price to reach a new equilibrium point while the changes in quantity supplied remain relatively smaller.