Introduction

A static economy is an economy where the rate of output remains constant. In a static economy, there are no changes in capital, tastes, and preferences of consumers, population composition or the techniques of production. Thus, the prices of goods and services are determined by forces of demand and supply.

Fig 1: Equilibrium State

The equilibrium state is the point at which the supply in the economy is equal to the demand in the economy (Frank, Jennings and Bernanke, 2012). At this state, the economic variables are unchanged except under the influence of external factors. The equilibrium point defines the equilibrium price Pe and equilibrium quantity Qe. At this state, the equilibrium is disrupted by changes in demand and supply in the economy. There are different external factors that interact in the market to determine the price of goods and services.

 

 

 

 

 

 

Fig 2: An increase in demand

As shown in the figure above, a surge in demand will shift the demand curve to the right from D₁ to D₂ resulting in a new equilibrium point q₂p₂. The increase in demand thus increasing the prices of goods and services from p₁ to p₂. Holding all other factors constant, a decrease in demand will move the demand curve to the left thus decreasing the price of goods and services in the market. There are several factors that change the demand in the market.

Income

One of the major factors is income. When the economy expands, and consumers have high incomes, they have a high propensity to consume and thus demand more goods and services thus increasing demand in the economy (Frank, Jennings and Bernanke, 2012). On the other hand, a decrease in income translates to less demand in the market thus shifting the demand curve to the left and lowering the price.

Consumer Tastes and Preferences

Another factor is consumer tastes. If the consumers taste for a product changes as a result of an increased taste for another product, they will demand the product with a higher utility thus shifting the demand curve to the left and reducing the price of the product.

Related Goods

Another major factor is changes in the price of a related good such as substitutes or complements. A substitute good is a good that is used in the place of another good while compliments are goods that are used together such as coffee and sugar. In the case of substitute goods, an increase in the price of a one substitute good will increase the demand for the other product thus shifting the demand to the right. For complements goods, a decrease in price will increase demand for both products thus shifting demand to the right.

Population composition

Another factor is the changes in the composition of the population. For example, a society with many young people can have a high demand for day care facilities than a society with more elderly persons.

All factors that shift the demand curve to the right results in an increased quantity and price in the market. However, the opposite movement of these factors will shift the demand to the left and lower both price and quantities in the market.

Fig 3: An increase in supply

When the supply of goods and services increase in the economy, the supply curve shift to the right from S₁ to S₂ giving rise to a new equilibrium state q₂p₂. This shift lowers the prices of goods and services and increases the equilibrium quantity. A decrease in the supply in the economy has an opposite effect ceteris paribus. There are several factors that shift the supply curve as discussed below.

Input prices

Input prices are the prices of the different factors that are employed in the production process. These include raw materials, labour, machinery, and other factors. An increase in the price of these factors increases the cost of production and a decrease lower the cost of production. A decrease in the cost of production will result in increased production thus lowering supply and shifting the supply curve to the right and lowering the price in the economy. An increase in the production cost will have an opposite effect ceteris paribus (Frank, Jennings and Bernanke, 2012).

Technological improvements

Technological improvements make the production process more efficient thus increasing production. The increased production, in turn, result in increased supply and thus shifts the supply curve to the right resulting in  reduced price.

Government policies

The government through policies such as taxation control the production of goods and services. Increased taxation, for example, discourages production due to the high cost of production. Thus, if the government increases taxation, the quantity supplied in the market decrease thus shifting the supply curve to the left and increasing the prices. However, if the government reduces taxation, the quantity supplied will increases and the supply curve will shift to the right thus reducing the prices as shown in fig 3. Other policies such as subsidies and regulations can also affect supply, and the shift will be based on how the policy affects production.

Producer expectations

Producers have expectations about the market. If for example, the producers perceive that there will be regulatory burdens in the future, they will increase quantity supplied to benefit before the burden hits the market. The increase in quantity supplied will shift the supply curve to the right thus reducing the prices as shown in fig 3.

Number of suppliers

The number of suppliers for a specific product in the market also affects supply. Increases in the number of suppliers increase the quantity in the market while an exit of suppliers reduced the quantity of goods in the market. Increases in quantity supplied shifts the supply curve to the right and reduce prices (Frank, Jennings and Bernanke, 2012).

Fig 4: A shift in both supply and demand

It is, however, possible for both demand and supply to change at the same time. Fig 4 presents a relatively large shift in demand and a smaller shift in supply. The initial equilibrium point is at point q₁p₁. A large increase in demand caused by the factors discussed above will shift the demand curve to the right from D₁ to D₂ and increase the price. A decrease in supply however will shift the supply curve to the left from S₁ to S₂ and increases the price. The new demand and supply curve will result in a new equilibrium q₂p₂ thus increasing the equilibrium price and quantity. A high increase in demand and a low decrease in supply can lead to ambiguous prices and quantities as shown in fig 4.

Fig 5: Alternative Shifts in Supply and Demand

Fig 5 presents a relatively large shift in supply and a smaller shift in demand.  An increase in demand shifting the demand curve from D₁ to D₂ will increase the price in the market. However, a subsequent decrease in supply shifting the supply curve from S₁ to S₂ with a large margin will increase the price but lower the quantity with a large margin. The interaction of the new demand and supply curves will yield a new equilibrium point q₂p₂ with a higher price and lower quantity than the initial equilibrium.

Main factors in determining the price of Polo Mints in the UK.

Polo Mint is a breath mint manufactured by the Nestle Company, and its defining feature is a hole in the middle. Polo Mint being a necessary good in the U.K market is considered a normal good in that its demand increase as income increases. It has a positive elasticity of demand. At any given time, there is an equilibrium price and quantity of Polo Mints in the market. However, this equilibrium changes as external factors affecting demand and supply changes giving rise to new prices and quantities in the market. The factors that determine the price of Polo Mints in the U.K market as follows:

Income

Income is one of the factors that determine the price of Polo Mints in the U.K. People use their income for two major purposes including consumption and saving. The lowest consumption level is meeting basic needs such as food, clothing, education, and others. The rest of the consumption goes to necessary but not basic goods such as Polo Mints. Thus, as income increase, the consumption of necessary goods increase. Thus, when the economy improves, and consumers have a high income, consumers who have a taste and preference for Polo Mints have more money to buy more Polo Mints. This increases the demand of Polo Mints in the market and shifts the demand curve to the right as shown in fig 1. However, when people have less income for consumption due to external factors that affect income level, the quantity of Polo Mints demanded in the U.K market decrease thus shifting the demand curve to the left thus lowering the price. Thus, holding all other factors constant, the price of Polo Mints increases as income increase and decrease as income decreases.

Consumer taste and preferences

The theory of the consumer argues that consumers make decisions by allocating their scarce income across all possible goods to obtain the highest utility (Frank, Jennings and Bernanke, 2012). The utility is the satisfaction one derives from consuming a good and is not determined by economic factors. Consumer thus places their value on the relative utilities between goods thus reflecting their preferences. Thus consumers who derive more utility in Polo Mints than in other goods will choose to buy more of Polo Mints and vice versa. However in that utility is determined by personal factors, it can increase or decreases thus affecting consumer preferences. When the consumer preferences for Polo Mints increases, their consumption for Polo Mints increase and shifts the demand curve to the right. This reduces the quantity of Polo Mints in the market and increases the price in the market.

Substitute Goods

Substitute goods are goods that can be used for the same purposes. Polo mint is a breath mint, and there are other companies in the U.K market offering other types of mints such as Tic Tac mints, Smint Mints, Skittles mints, and Peppersmith among others. If the price of any of these substitutes’ goods decreases, many consumers will choose to consume the good with a lower price given that their income is scarce. Thus, the demand for Polo Mints will decrease thus shifting the demand curve to the left. This will result in a reduced price for Polo Mints. However, if the price of any substitute increases, some consumers will choose Polo mint as their best alternative relative to its price. This will, in turn, increases the demand for Polo Mints and shift the demand curve to the right, in turn, increasing the price in the market. There are other characteristics of substitute goods such as quality that can affect the perceived utility besides price and affect the equilibrium price of Polo Mints in the market.

Input prices

The raw materials used in the manufacturing of Polo Mints include stearic acid, mint oils, sugar, modified starch, and glucose syrup. These are products sourced from different sources either as complete products or as raw materials. The manufacturing process also requires other inputs such as labor and machinery (Frank, Jennings and Bernanke, 2012). When the cost of a single input increase, the cost of producing Polo Mints increase and the quantity of products produced decrease. This results in a reduced supply of Polo Mints in the market which shifts the supply curve to the left and in turn increasing the price in the market. However, a decrease in the cost of production will increase the quantity produced and supplied thus shifting the supply curve to the right and reducing the price as shown in fig 2.

Government policies

The government controls the productivity in the economy through policies. If for example, the government feels that the consumption of fatty foods is causing health problems, it can control the production of fatty foods by overtaxing such foods. Most governments compensate for environmental pollution with pollution taxes. In the case of Polo Mints, an increase in taxes will increase costs for Nestle and shift the supply curve to the left thus reducing the quantity of Polo Mints in the market and increasing the equilibrium price of Polo Mints. However, a fall in the taxes will shift the supply curve to the right thus increasing the quantity supplied and reducing the price in the market. Other government policies that can shift the supply curve include subsidies and regulations. A subsidy granted to the mint industry, for example, will lower the production cost and shift supply to the right thus reducing the price of Polo Mints.

Technological improvements

In this century, manufacturing employs automated machines which are more efficient and effective. This ensures that organizations not only minimize costs but enjoy the efficiency of automated production. Technology continues to improve as organizations seek more efficiency. A technological improvement in the production of Polo Mints will thus lower production costs and increase production efficiency. This will, in turn, lead to higher productivity in terms of quantity produced. The increased production will translate to increased supply thus shifting the supply curve to the right. When the supply curve shifts to the right, a new equilibrium point will be established with a higher quantity and lower price than the initial equilibrium. Technology cannot deteriorate in that as new technologies are improvements on old technologies.

Producer expectation

Producers have expectations about the future to ensure they estimate demand and prepare to meet such demand. Thus, producers make decisions based on their expectations of the future. These expectations, however, are based on an analysis of the current market conditions (Frank, Jennings and Bernanke, 2012). If for example, the government increase minimum wages, the consumers will have more income, and the producer can expect demand to increase in the near future. The producer can thus lower supply and hold the products to benefit in the near future. Thus if Nestle expects that the market will improve in the future, it will reduce the supply of Polo Mints in anticipation for a future benefit. This will lower the supply in the market and shift the supply curve to the left and subsequently increases the prices of Polo Mints. If however, the Nestle expects the market to worsen in the future such as regulatory burdens, it will supply more Polo Mints to benefit before the burden. This will, in turn, increases the supply of Polo Mints in the market and shift the supply curve to the right. The shift to the right will lower the price in the market.

Conclusion

Practically, all the above factors all affect demand and supply at the same time. While income can increases thus raising the price of Polo Mints, the price of substitute goods can also decrease at the same time which will subsequently lower the price of Polo Mints. The increases price due to income increases will cancel out with the decreases in price due to substitute good, and the equilibrium price can remain at the initial point. Thus, while these factors influence the price of Polo Mints in the U.K market, the forces of demand and supply as a result of changes in all these factors are what determines the price.

 

 

Reference

Frank, R., Jennings, S. and Bernanke, B., 2012. Principles of microconomics. 3rd ed. North Ryde, N.S.W.: McGraw-Hill Australia.

Nguyen, B., 2015. Essentials of Microeconomics. New Yolk: Taylor and Francis.