Demand & Supply — Set 2

Correct Answer: A. Perfectly inelastic demand

• **Perfectly inelastic demand** = A vertical demand curve means quantity demanded is completely unresponsive to price changes; elasticity equals zero. • **Ed = 0 (zero elasticity)** — Life-saving medicines or insulin for diabetics approximate perfectly inelastic demand. • 💡 Wrong-option analysis: Unitary elastic demand: unitary elastic demand has Ed = 1; it is represented by a rectangular hyperbola, not a vertical line; Highly elastic demand: highly elastic demand is nearly horizontal; a small price rise causes a large drop in quantity; Perfectly elastic demand: perfectly elastic demand is horizontal (Ed = infinity); consumers buy any amount at one price but zero at any higher price.

Correct Answer: A. Elastic

• **Elastic** = Elastic demand (Ed > 1) occurs when a small percentage change in price leads to a larger percentage change in quantity demanded. • **Ed > 1** — Luxury goods and items with many close substitutes tend to have elastic demand. • 💡 Wrong-option analysis: Inelastic: inelastic demand (Ed < 1) means quantity changes by a smaller percentage than the price change; Zero: zero elasticity (perfectly inelastic) means quantity does not change at all when price changes; Unitary: unitary elasticity (Ed = 1) means both percentage changes are equal; revenue is unchanged.

Correct Answer: A. Other things remaining the same

• **Other things remaining the same** = Ceteris Paribus is a Latin phrase meaning 'all other things being equal,' used to isolate the effect of one variable. • **Latin for 'all else equal'** — This assumption allows economists to study the relationship between price and demand by holding income, tastes, and other factors constant. • 💡 Wrong-option analysis: Everything is variable: ceteris paribus means the opposite; it holds non-target variables constant, not variable; Consumers are rational: consumer rationality is a separate assumption in economic theory; it is not what ceteris paribus means; The price is constant: ceteris paribus is used when studying the effect of a price change; price is the variable being changed, not held constant.

Correct Answer: C. Demand is greater than supply

• **Demand is greater than supply** = A shortage (excess demand) arises when the quantity demanded exceeds the quantity supplied at the prevailing market price. • **Price below equilibrium causes shortage** — At below-equilibrium prices, too many buyers chase too few goods, creating scarcity. • 💡 Wrong-option analysis: Supply is greater than demand: supply exceeding demand describes a surplus, not a shortage; Price is above equilibrium: a price above equilibrium creates a surplus (excess supply), not a shortage; The market is in balance: when the market is in balance, there is equilibrium with no shortage or surplus.

Correct Answer: D. Improvements in technology

• **Improvements in technology** = Technological progress lowers production costs and improves efficiency, shifting the supply curve to the right. • **Technology reduces production cost** — Better machinery or automation allows firms to produce more at the same cost, increasing supply. • 💡 Wrong-option analysis: Higher cost of raw materials: higher input costs raise production costs and decrease supply, shifting the curve leftward; Increase in excise duty: higher excise duty increases cost and decreases supply; it does not increase it; Rise in the price of labor: higher wages increase production cost and reduce supply.

Correct Answer: C. Inferior goods

• **Inferior goods** = Inferior goods have a negative income elasticity; as consumers' incomes rise, they switch to better alternatives and buy less of the inferior good. • **Negative income elasticity** — Basic staples (coarse grains, low-end public transport) are consumed more by lower-income groups and less as incomes grow. • 💡 Wrong-option analysis: Superior goods: superior goods are another name for normal or luxury goods; demand increases with income, the opposite of inferior goods; Luxury goods: luxury goods have high positive income elasticity; demand rises sharply with income; Giffen goods: Giffen goods are a special subset of inferior goods but their key feature is rising demand with price, not just falling demand with income.

Correct Answer: A. Equilibrium point

• **Equilibrium point** = The equilibrium point is where the supply and demand curves intersect, representing the market-clearing price and quantity. • **Market clears at equilibrium** — At this point, every willing buyer finds a seller and every willing seller finds a buyer. • 💡 Wrong-option analysis: Saturation point: saturation point refers to a maximum level of market penetration, not the supply-demand intersection; Break-even point: break-even is where total revenue equals total cost; it is a production/cost concept, not a market equilibrium concept; Market point: 'market point' is not a standard economic term for the demand-supply intersection.

Correct Answer: B. Equal to one

• **Equal to one** = When total revenue remains unchanged despite a price change, the percentage changes in price and quantity are equal, meaning unitary elastic demand. • **Ed = 1 means TR is constant** — A 10% price rise and a 10% quantity fall leave revenue exactly the same. • 💡 Wrong-option analysis: Less than one: when Ed < 1 (inelastic), TR moves in the same direction as price; a price rise increases TR; Greater than one: when Ed > 1 (elastic), TR moves opposite to price; a price rise decreases TR; Zero: zero elasticity means quantity does not change; TR rises proportionally with price.

Correct Answer: C. Cross elasticity

• **Cross elasticity** = Cross elasticity of demand measures the responsiveness of the quantity demanded of one good to a change in the price of another related good. • **Positive cross elasticity = substitutes; negative = complements** — Tea and coffee have positive cross elasticity; pens and ink have negative cross elasticity. • 💡 Wrong-option analysis: Supply elasticity: supply elasticity measures responsiveness of quantity supplied to a change in the good's own price; Price elasticity: price elasticity measures responsiveness of quantity demanded to the good's own price change, not the price of another good; Income elasticity: income elasticity measures responsiveness of demand to a change in consumer income.

Correct Answer: B. Change in the price of the good itself

• **Change in the price of the good itself** = A change in the good's own price causes a movement along the existing demand curve (change in quantity demanded), not a shift. • **Own-price change = movement along curve** — Only non-price factors (income, tastes, related goods' prices, population) cause the entire demand curve to shift. • 💡 Wrong-option analysis: Change in income: income change is a non-price factor that shifts the entire demand curve; Change in the price of related goods: related goods' price changes shift the demand curve; Change in population: population change affects overall market demand and shifts the curve.