Supply, Demand and Equilibrium Price - Essay Example

"Mrs. Acres Pies and Economic Strategy" Module: The three situations which Mrs. Acres can follow can be represented by the following economic analysis. The first choice that she has is to maintain the current production and to increase the prices for the excess supply to dampen. We can represent the above situation diagrammatically. Case 1: Mrs. Acres increasing prices to meet demand The above diagram represents on way in which Mrs. Acres can act. Here, suppose the initial equilibrium occurs at the point where Demand meets Supply curve at D = S. The equilibrium quantity here is 8000 pies at a price of $4.5. However, Mrs. Acres find that this quantity is not meeting the current demand. She does nothing but allows the market forces to increase the prices. This way the market demand curve will move from D to D2. A new equilibrium will now be formed as consequence where Supply curve meets D2 curve. At this stage the quantity will be great than the initial equilibrium quantity demanded will be 8000 and the prices will be greater $4.5 depending on the strength of the market demand. Some of the increased demand will be absorbed by the increase in price and equilibrium quantity supplied to the market will remain 8000 pies. This will result in increase in revenue for Mrs. Acres and consequently the increase the profits. Therefore, Mrs. Acres will choose this option if other options are not yielding better results than this one in terms of profits and revenue. However, by choosing this option her position will be vulnerable in the long-run and she can expect to lose in the broad perspective. In the long-run, high prices will encourage competition to enter the market and take some of the market share by keeping prices lower than competitors. As a result of this, in the long-run, her quantity supplied will be less than 8000, as charging high price will result in market share being lost to consumers. Similarly, as a result her sales may also experience a negative trend and she may lose out in the long run by raising prices. In other words, after the initial gain of increased revenue followed by increased, prices she may end up inviting a lot of competition to the industry and may lose out in the long run. The price of the pies will decline and come back to the normal equilibrium price of $4.5. In the long-run, the equilibrium price and quantity will be different because new companies can enter the market, whereas in the short-run, no new firms can enter the market. As a result of this long-run effects of this will be different than short run effects. Case 2: Mrs. Acres decides to increase supply to meet additional demand Case 2: Mrs. Acres meets the Market Demand In this option suppose, the initial quantity is again 8000, represented by the label q1 on the diagram at a place where demand and supply meet. However, in order to meet the demand, Mr. Acres decides to increase the staff and in turn the supply. This will mean that there will be not increase in the price but the quantity demanded will now rise to q2, which is greater than 8000 pie. In the long-run, her sales and price will remain constant depending on the market trend and depending on the type of competition that exist in the market. However, since she is meeting demand there is no room for competitors to enter the market unless they come up with an extraordinary product. Therefore, by choosing this option she is discouraging the competition in the market which is going to keep her profits and revenues constant in the long run also and she may continue to enjoy the success in the long-run also. And the best thing here is that she will have to share profits with no one like she has to do in the option 3. Here, in the long-run, no new company can enter the market because there is no space in the market as Shelly Acres is operating under the efficient conditions of both allocative and productive efficiency as a result in the long-run, there will be no other effect and short-run conditions will prevail. If the same conditions in the market persist, in the long-run, her quantity supplied will remain 8000 pies and price will remain $4.5. In this strategy, there will be no difference in the short-run and long-run. In this case also, Mrs. Acres will find her revenue and profits increase. However, her decision to pursue option 1 or option 2 will be discussed after the third case has been discussed and a conclusion is reached. CASE 3: Mrs. Acres deciding to sell her pies through franchising If Mrs. Acres decides to pursue the third option, there will be a massive increase in the price of pies as the national restaurant chain now will also seek to add their profit margin to the price of pies. This will inflate the prices of the pies by a bigger amount than any of the other 2 options. However, this will also mean that the entire revenue will not only come to Shelly but there will be other parties who will be commanding this revenue such as the national restaurant chain as discussed above. In this case, in the short-run, her quantity demand will be equal to quantity supplied at a quantity of >8000. Her price will also be higher than $4.5 as there will be a share of national restaurant chain. This may increase the profits for Shelly but it is not guaranteed whether the quantity demanded of pies will decrease or not. Some of the increase in quantity demanded will be absorbed by the increase in the prices and the quantity demand may actually fall depending on the elasticity curve of these pies. However, in the long-run, her profits and quantity demanded is certain to fall because there will be more competition opening up and if they charge lower price than Shelley's pies and the demand for her pies is elastic than people will be attracted towards the consumers and in the long-run Shelley may suffer a lot. In other words, after an initial gain she may suffer in the long-run perspective. In the long-run, the prices will come down to the equilibrium price of $4.5 and quantity will come down to 8000 units. This will result in decrease in profits using this strategy when compared with profits earned in the short-run using the same strategy. If we compare the three options, we can safely say that all options are providing short term gains to Shelley Acres and therefore the final decision rests on how the business will be performing in the long run as a consequence of the type of strategy she decides to pursue. From the analysis done above, the best strategy is the strategy number 2, where Shelly Acres increases the supply to meet the additional demand that has popped up due to the popularity of her delicious pies. Not only this option will raise Shelley Acres revenue and profits in the short-run, but it will also make sure that her position in the long-run also remain constant and her business keeps growing with the threat of any competition and she continue to enjoy the smooth operation of the business. The long-run conditions in this strategy will be different because increase in prices will bring about more competition in the market and as a result Shelly Acres will lose her market share resulting in lower quantity of goods demanded and this low demand will also result in fall in prices of Shelley Acres products. This is how the long-run and short-run effects will be different in this (3) strategy. References Richard Lipsey and Alec Chrystal. Economics. 10th Edition. Oxford University Press 2003. Campbell McConnell and Stanly Brue. Economics. McGraw-Hill (2005) Robert Pindyck and Daniel Rubinfield. Microeconomics. Prentice Hall (2004) John Sloman. Economics. Prentice Hall (2005). Read More