Question

The correct answer is equilibrium quantity will fall but please help me explain it. Thanks a lot!

two events occur simultaneously in the market for automobiles (1) the wages that are paid by the automobile companies (2) the economy contracts rapidly (which decreases consumers' income. An economist would predict a certainty that: A. equilibrium of quantity falls B. equilibrium of price falls C. equilibrium of quantity rises D. equilibrium of price rises

Answer 1

The wages paid by the automobile companies increases.

This increase in wages will increase the cost of production of automobile companies which in turn will reduce their profit margin.

This decrease in profit margin will compel the companies to reduce production and thereby the supply will also decrease.

So,

The supply of automobiles will decrease.

Moreover, the consumers' income has decreased as economy has contracted rapidly.

This decrease in income will refrain the consumers from purchasing automobiles.

So,

The demand for automobiles will decrease.

When both demand and supply decreases then equilibrium quantity decreases as well. However, impact on equilibrium price depends on the magnitude of decrease in both demand and supply.

So,

An economist would predict a certainty that equilibrium quantity falls.

Hence, the correct answer is the option (A).