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assumed market structure

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Suppose you are hired to manage a small manufacturing facility that produces Widgets.

(a.) You know from data collected on the Widget Market that market demand has recently increased and market supply has recently decreased. As manager of the facility, what decisions should you make regarding production levels and pricing for your Widget facility?

Remember that supply and demand are about the market supply and market demand, which is bigger than your own company. You are being given data on supply and demand for the whole market, and are being asked what effect that has on you as a small part of that market.

(b.) Now, suppose that following the supply and demand changes in (a), a substitute good goes up in price, and your costs of production decrease. What new decisions will you make regarding production levels and pricing for your Widget facility?

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This solution contextualizes assumed market structure.

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The answer to these questions in certain cases will depend on the assumed market structure. If the market structure is assumed to be perfectly competitive then the demand curve facing your firm will be horizontal (perfectly elastic) and your firm can sell whatever quantity it can produce. Assuming that is not the case, and we have standard downward sloping demand curve, and upward sloping supply curve this is how we can work out price and quantity decisions.

(a) When market demand goes up, everything else staying the same, the price and quantity sold in the market will both go up. This is true even for the perfectly competitive case wherein the demand curve that each firm in the industry faces shift up to a new price level. Even otherwise an increase in demand increases equilibrium quantity demanded and equilibrium price.

When supply falls it leads to a reduction in equilibrium quantity, and an increment in ...

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