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# Economics/How sensitive is supply and demand?

Question
If a new farmer starts a new say 5000 acre orange farm in Florida or 5000 acre peach farm in Georgia would more supply immediately lower prices or would it not really make a difference as it's not much more supply than before and be insignificant. I can see how it would be different for grain crops like corn and wheat as there are much more farms of those crops and I can see how they can be more sensitivee.

Hi Dan,
Sorry that I could not get your first question. Now I understand what you want to know. Thank you for a clear question.

I don't know about your level of economics, but I assume you have had a good grounding in demand and supply theories. A little advanced-level market model tells us something which is normally not taught at undergraduate levels in the U.S. or in Canada, though I have seen one book [Wilkinson and Russell, Microeconomics: A Neoclassical Synthesis (quite tough without advanced math)] from Harvard professors meant for undergraduate courses, even though that part of demand-supply theory may be skipped.I am under the impression that you probably may find it difficult to understand the way it is written in that book. So, using as little math as possible, I will try my best to explain to you what actually that model goes to explain your question very well.Skip the parts in brackets, if you find that difficult, without loss.

This model is called the cobweb model. There are two important things:
(a) Demand for a commodity  depends upon the price of the commodity at this moment [D=f[P(t)]
(b) Supply of the product depends on the price of the product that prevailed in the previous period [S=f[P(t-1)].

The reason for (a) above is that, whenever you demand something, you do so on the basis of the price of that commodity NOW prevailing in the market. The reason for (b) above is that, a producer or supplier takes decision to produce some commodity only when he thinks he can make profit and that depends upon the price of the commodity at that time. Once the decision is take, the producer goes on to produce the commodity and then supply that in the market. It takes time between taking decision, gathering all factor inputs, transforming the inputs, and placing the final product onto the market. There is a time-lag.

To put things in very simple terms, the process takes it this way.
1. The buyers demand something, say orange or peach, at the going price.
2. The sellers take decisions to produce orange or peach in the next season based on the prices of orange and peach in this season.
3. The sellers [producers] place the goods in the next season. Supposing the prices are high this season, the sellers bring EXCESS SUPPLY into the market next season.
4. Excess output in the market [excess supply] makes sellers disturbed with unsold inventory. They reduce prices.
5. At reduced prices, which may even be lower than the prices in the first season, buyers' demand rises at the now-LOW prices.
6. As price is low in the second period, the sellers are now discouraged and bring LESS oranges and peaches in the third season. Supply is significantly reduced.
7. As in the third season there are fewer oranges and peaches than consumers want to buy, the buyers bid up prices because of EXCESS DEMAND.
8. At now-HIGHER prices, produces/sellers are encouraged to bring a larger amount of oranges and peaches in the market in the fourth season.
This process continues. The following may result:

1. Prices go up and down, quantities supplied go down and up, and in the long run prices may settle at other equilibrium, where prices may be either lower or higher than what were the price initially. It all depends on the slopes of the demand and supply curves --more specifically on the elasticities of demand for and supply of oranges and peaches. [Remember: new equilibrium may not be reached.]

2. Prices may fluctuate between TWO levels if the absolute values of the demand and supply curves are the same.

So, Dan, actually it all depends on:

(a) What product you are considering and what elasticity of demand (as well as of supply) the product may have will show the path of price changes.

(b) Obviously, as you have mentioned, commodities with very low elasticities such as corn, will certainly be more sensitive [If you draw a demand curve, on the same scale with that for oranges or peaches, you see that the demand curve is "steeper"which means prices will go up.On the other hand, if elasticity of a product is high relative to that of corn, the demand curve will be relatively "flatter." This means prices will fall. Again, it also depends on supply curves.

Come to your question again. With increased supply prices may go down "immediately."

This is a very deep question and requires much technicality. I hope this explanation serves your purpose.
Best of luck.

Economics

Volunteer

#### Eklimur Raza

##### Expertise

It appears some students in this website are confused about elasticity of demand and the slope of the demand curve when they are trying to figure out why rectangular hyperbola comes up in case of unitary demand curve. First, they don't know that RH can be depicted in a positive quadrant of price,quantity plane. Secondly, they make the mistake that the slope of RH is constant at -1. Two points could help them: first, e=1 at each and every point of the RH, because the tangent at any point shows lower segment=upper segment (another geometric definition of e); yet slopes at different points,dQ/dP, are different; second, e is not slope but [(Slope)(P/Q)]in absolute terms. Caveat: only if we measure (log P) along the horizontal axis and (log Q) up the vertical axis, can we then say slope equals elasticity --in which case RH on P,Q plane is transformed into a straight-line demand curve [with slope= -tan 45 deg] on (log Q),(logP) plane, and e= -d(log Q)/d(log P). [By the way, logs are not used in college textbooks --although that is helpful in econometric estimation of elasticity viewed as an exponent of P, when demand equation is transformed into log-linear form.] I have not found the geometrical explanation I have given in any textbook followed in undergraduate and college classes in Canada (including the book followed in a university where I taught for a short time and in the book followed in George Brown College, Toronto, where I teach.

##### Experience

About 11 years' teaching economics and business studies, and also English, history and elementary French.Practical experience in a development bank, working with international donor agencies like the World Bank and the ADB. Experience in free-lance journalism, including Canada's "National Post."

Organizations
I teach micro- and macroeconomics at George Brown College (continuing education), Toronto, ON, Canada.

Publications
Many articles and editorials, on different subjects, in English newspapers. Recently an applied Major Research Paper, based on a synthesis of the Solow growth model and the Lewis two-sector model, has be accepted by Ryerson University, Toronto. Professors Thomas Barbiero and Eric Cam, Ryerson University, accepted the paper.

Education/Credentials