Demand For Chocolate Creates Shortage

Question : (1)Assume that chocolate operate in a perfectly competitive market, use a well-labelled demand and supply (D-S) model to explain how market equilibrium price of chocolate is being determined. Please clearly explain the equilibrating process. (2)Using the D-S model, explain and illustrate what factors have caused the market price for chocolate to rise in the past two years. Clearly explain the equilibrating process. (3)What will happen to the market for other confectionaries/sweets as a result of the changes in the market price of chocolate? Make sure to use D-S model to discuss the equilibrating process. (4)Do you think the demand for chocolate is price elastic or price inelastic? Explain your answer based on the determinants of price elasticity of demand. Use your answer to discuss the likely impact of the drought on consumers total expenditure on chocolate. Answer : (1) Under Perfect Competition no single firm or single consumer can influence the price of the chocolate because of its negligible share in total supply or total demand of industry. However, price is determined by the collective action of all firms in the industry through the supply curve of the industry and the collective action of all the consumers through the industrys demand curve. Thus, short-run equilibrium price and quantity is determined by the interaction of market demand and market supply(Hall", 2014) The demand curve DD represents the aggregate demand of the industry for chocolate, and the supply curve SS represents the total supply of chocolate of the industry(WEXLER, 2014)Industry is in equilibrium at E where the total market demand for chocolate is equal to total market supply for chocolate. The equilibrium price is OP and equilibrium quantity is OQ. If price is above OP, say OP1, there is excess supply of chocolate which pulls down the price again to OP. On the other hand, if price is below OP, say OP2, there is excess demand for chocolate. As a result price would rise till it reaches the level of OP. At equilibrium E, there is neither excess supply nor excess demand and, therefore, the price has neither a tendency to fall nor a tendency to rise.(SULLIVAN, 2014) (2)The factors that contribute in the growth of the market price of the chocolate in last two years are as follows: -Increase in demand for the chocolate: the demand for the chocolate is much more in comparison to supply of the chocolate in the market which causes an upward push in the market price of the chocolate.(Wood, 2014) -Consumer taste and preferences: The level of market price for chocolate is also influenced by customer taste and preferences. Taste and preferences depends on social customs, habit of people, etc. Some of these factors like fashion keep on changing, leading to change in consumer taste and preferences. A favorable change in taste and preference of the consumer for chocolate increases its demand in the market, which ultimately leads to an increase in the price if the chocolate.(GASPARRO, 2012) -Decrease in supply: There is an upward trend in the price of the chocolate because of shortage in supply of the chocolate to meet its demand in the market. When the supply of the product is more than its demand, price decreases, whereas where the supply of the product is less than its demand, price increases.(Wells, 2013) One of the major cause for the increase in the price for chocolate is the increase in its demand in the market. The effect of change in demand is explained below: If supply remains constant, shift of demand curves i.e. change in the demand will result in the change in equilibrium price and equilibrium quantity. The effect of shift in demand curve on the equilibrium price can be illustrated with the help of a diagram In the diagram 1.2, D0D0 and SS are the initial demand and supply curves respectively. E0 is the equilibrium corresponding to the point of intersection of demand and supply curves. OP0 is the initial equilibrium price and OQ0 is the initial equilibrium quantity. Now, as a result of increase in demand, the demand curve shifts to the right from D0D0 to D1D1. At the original price OP0, quantity demanded now will be OQ3, but the quantity supplied will remain at OQ0. In other words, this will lead to excess demand to the extent of Q0Q3. This would exert an upward pressure on the prices as explained above. The price would continue to rise till it reaches OP1 where demand and supply will be equal to each other once again. Intersection of D1D1 with SS will give us the new equilibrium at E1, and OP1 and OQ1 will be the new equilibrium price and equilibrium quantity respectively. Thus, an increase in demand for a commodity i.e. a rightward shift in demand curve, causes an increase in both equi librium price and equilibrium quantity bought and sold. (3)The market for other confectionaries/sweets as a result of the changes in the market price of chocolates depends on the movement in the market price for the chocolate i.e. whether it is in upward direction or downward direction.(Morris, 2014) If the price of chocolate increases then the market for those sweets and confectionaries whose prices are lower in comparison to the price of chocolate and that can be substituted in place of chocolate increases, whereas the market for those sweets and confectionaries which are used as a complementary good with chocolate decreases.(Shah, 2003) The response of the market of other sweets/confectionaries depend on two situation: (a) Equilibrium Price of chocolate increases- When the relative increase in demand for chocolate is greater than its supply, the equilibrium price rises. From Fig. 1.3, it is clear that demand increases in larger proportion than the supply. Equilibrium is at E1 corresponding to the intersection of D1D1 with S1S1. Hence, price increases to OP1 and quantity to OQ1. Hence, when demand of chocolate increases more than its supply, price for the chocolate will rise which may indirectly lead to an increase in the market for those sweets/ confectionaries that can be used as a substitute in place of chocolate.(Hameed, 2009) (b) Equilibrium Price of chocolate decreases-When the relative increase in demand is smaller than the increase in supply, the equilibrium price falls. In fig. 1.4, supply for chocolate increases in a larger proportion than its demand. Equilibrium shifts from E to E1. Consequently, equilibrium price falls from OP to OP1, but equilibrium quantity increases from OQ to OQ1. Thus, when supply increases more than demand, the price for chocolate falls which causes an increase in its demand and indirectly reduces the market for other confectionaries/sweets which are used as a substitute in place of chocolate and increases the market for those sweets/confectionaries which are used as a complementary good with the chocolate. The demand for chocolate in the market is price elastic. A fall in the price for chocolate increases its demand in the market and vice-versa. The determinants for price elasticity of demand are as follows: 1. Availability of substitutes- The most important determinant of the price elasticity of demand is the number and kind of substitutes available for a commodity(Kazemi, 2010). If commodity i.e. chocolate has many close substitutes then its demand is likely to be more elastic. Even a small fall in price will induce more people to buy the chocolate rather than its substitutes. 2. Nature of the commodity-Demand for luxury items or victim that serves the comfort pleasure of the consumer tend to be more elastic than the demand for those goods which serve the basic needs of the consumer. And chocolate serves the comfort pleasure of the consumer.(DATAMONITOR, 2006) 3. The number of uses of a commodity- The greater the number of uses to which a commodity can be put to, the greater will be its price elasticity of demand and vice-versa. Chocolate can be used by the consumer as a main product or co-product in multiple uses.(Pearson, 2014) 4. Price Range- Price elasticity of demand depends upon the range of prices. Demand for a commodity tends to be inelastic at a very high price of the commodity and even it is inelastic at a very low price of the commodity, but is elastic within the moderate range in the price of the commodity. The prices of chocolates are neither too high nor too low thus the demand for chocolate is elastic.(Andreyeva, 2012) In the situation of drought, consumer behaves in an abnormal manner, they buy the commodity even at a very high price. Thus, in case of drought, even at a very high price of the chocolate consumers are ready to purchase them, thus causing an increase in the total expenditure of the consumer. The below given table shows how the total expenditure increases with the increase in the price of chocolate in the situation of drought.(Schatzker, 2014) Price of the chocolate (P) Quantity demanded (Q) in pieces Total Expenditure (P*Q) 50 10 500 70 15 1050 References: Andreyeva, T. (2012). The Impact of Food Prices on Consumption. PMC , 1-3. DATAMONITOR. (2006). CONFECTIONERY: Chinas Sweet Tooth Grows. Asia Food Journal , 1. GASPARRO, A. (2012). People Love Chocolate At Any Price. Money Beat , 1. Hall", ". (2014). demand for chocolate in perefectly competitive market. 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