Question

3. Understanding changes in equilibrium price and quantity Suppose you are an analyst in the oil refinery industry and are responsible for estimating the equilibrium price and quantity of home heating oil. To do so, you must consider factors that can affect the supply of and demand for heating oil. Determinants of the demand for heating oil include household income, the price of an oil furnace (a complementary good for heating oil), and the price of natural gas (a substitute good for heating oil). Determinants of the supply of heating oil include the cost of crude oil and the cost of refining crude oil into home heating oil. Use the calculator to help you answer the following questions. You will not be graded on any changes you make to the calculator. (Note: Once you enter a value in a white field, the graph and any corresponding amounts in each grey field will change accordingly.) Graph Input Tool Market for Heating Oil Market for Heating Oil 30 Supply Price of Heating oil (Dollars per barrel) Quantity Demanded (Thousands of barrels per day) 100 Quantity Supplied (Thousands of barrels per day) 60 PRICE (Dollars per barrel) Demand Shifters Supply Shifters 10 Cost of Crude Oil (Per barrel of heating oil) 25 Demand 2000 Price of Natural Gas (Dollars per 1,000 cubic ft.) Price of an Oil Furnace (Dollars per furnace) Average Annual Income (Thousands of dollars) Cost of Refining Oil (Per barrel of heating oil) 0 20 40 60 80 100 120 140 160 QUANTITY (Thousands of barrels per day) 40

Answer 1

The equilibrium quantity in this market is 80 thousand barrels of heating oil per day, the equilibrium price is $ 40 per barrel.

Suppose that the cost of refining oil decreases from $15 to $ 10 for each barrel of heating oil produced. Assuming that the rest of the determinants of supply and demand for heating oil remain equal to their initial values, the market will eventually reach a new equilibrium price of $35 per barrel.

Suppose that instead of changing in cost of producing heating oil,there was an increase in the price of an oil furnace from $2000 to $2100.If the price of heating oil were to remain at the initial equilibrium price you found in the first question, there would be decrease in demand of heating oil which would exert downward pressure on prices.