Question

4. Suppose that the demand for a drug is perfectly inelastic and the market is initially in equilibrium. Suppose further that there is an increase in the price of an input required to produce of the drug. Everything else held constant, graphically (and in words) illustrate the impact of this action in the market for this drug. What will happen to equilibrium price and equilibrium quantity? How would your answer be different if demand was not perfectly inelastic? (7 points)

Answer 1

A Perfectly inelastic demand is one in which the change in price causes no change in the quantity demanded.In this case demand curve is vertical parallel to Y axis.Equilibrium in this market can be shown as

A Perfectly inelastic demand is one in which the change in price causes no change in the quantity demanded. In this case demand curve is vertical parallel to Y axis. Equilibrium in this market can be shown as initial equilibrium is at E where DD is perfectly inelastic demand curve and ss is the supply curve .Now suppose there is an increase in the price of an input required to produce the drug .The cost of production increases as a result of that at each price produces need to sell there good for more money .so an increase in the price leads to a decrease in supply .Decrease in supply new equilibrium is at E_1 Then we will is an inelastic demand curve if demand was not perfectly inelastic than due to increase in price of the product due to increase in cost of inputs demand will fall due to increase in price of drugs