Understanding Shifts in Supply and Demand Curves
**Shifts in the Demand Curve**
The quantity demanded depends on several variables. The purpose of the demand curve is to determine how the quantity demanded depends on price only. Over time, these other variables change, impacting the quantity demanded and shifting the demand curve further to the right or left. These other factors are:
**A. Personal Income**
When there is an increase in people’s disposable income, they will be willing to increase demand for goods and services. This happens with a *normal good*, which meets our basic needs. Normal goods are defined as those where an increase in a person’s income leads to an increase in the quantity demanded at each existing constant price.
In this case, the increase in personal income results in a shift of the demand curve to the right. It is also possible that an increase in personal income leads to abandoning normal products and buying more of another product. In this case, there would be a shift in the demand curve of the product normally purchased to the left, and a shift in the demand of the product now chosen to the right.
When this happens, the good that we have been consuming normally, and whose use is now abandoned with increasing disposable income, is considered an *inferior good*. An inferior good is defined as one where, rather than increasing with consumer income, the quantity demanded decreases, causing a shift of the curve to the left.
**B. The Price of Related Goods**
When there is a price increase in one asset, there may be an increase in the quantity demanded of another good, with the price of that other good remaining constant. This causes a shift in the demand of that other property right. When this happens, they are said to be *substitute goods*. Substitute goods are defined as those where if the price of one increases, the quantity demanded of the other also increases, with its price remaining constant.
The opposite phenomenon happens with *complementary goods*. These are consumed together in the same batch or activity. Complementary goods are defined as those where if the price of one increases, the quantity demanded of the other decreases, with the price of the latter remaining constant.
**C. People’s Tastes**
People’s tastes change over time. A change in taste, unless it relates to substitute goods at constant prices, will cause an increase or decrease in demand for a product, provoking a shift in the demand curve either to the left or right.
**Shifts in the Supply Curve**
The purpose of the supply curve is to determine how much product producers are willing to sell, depending on the different prices in the market, considering other variables that may influence the quantity produced as constant. However, over time, considering different economic situations, a change may alter the quantity supplied. These factors are:
**A. The Cost of Production Factors**
At constant prices, an increase in the cost of production factors can cause a drop in wheat production and consequently a shift in the supply curve to the left.
**B. New Technologies**
At constant prices, new technologies can cause an increase in wheat production, shifting the supply curve to the right. This is because new technologies in the production process decrease production costs. At constant prices, there will be an increase in the production of goods and services if total costs decrease due to new technologies, resulting in a shift of the supply curve to the right.
**C. Weather Conditions**
At constant prices, adverse weather conditions may cause a drop in wheat production, causing a shift in the supply curve to the left.
**D. Price of Related Goods**
_Substitutable goods_ are those that may be produced alternately, one or the other, by using the same production factors. Faced with a falling price of wheat, there will be a fall in the supply of wheat, shifting the supply curve of wheat to the left. As a consequence, at constant prices of barley, there will be an increase in barley production, causing a shift in the supply of barley to the right.
_Complementary goods_ are those that occur in the same lot. If there is an increase in the price of beef, there will be an increase in beef production, causing a shift in the supply curve to the right. At a constant price of leather, there will be an increase in the supply of leather, shifting the supply curve of leather to the right.
**The Multiplier Effect**
Economic equilibrium with unemployment can exist if aggregate demand equals national product. Suppose investment demand increases by 100,000 pesetas. Aggregate demand increases by 100,000 pesetas, resulting in an increase in national product equal to 500,000 pesetas. This is the simple multiplier effect.
**Phases of the Multiplier Effect:**
First Phase: An employer decides to increase investment by 100,000 through the demand for goods and services. To produce these goods and services, the manufacturer, seeing increased demand, must increase the factors of production (land, capital, and labor). Workers who were unemployed now begin to work and receive wages.
Second Phase: These workers have increased disposable income and, with a marginal propensity to consume of 80%, use 80,000 of the 100,000 disposable income for consumption. They will demand new goods and services, and the producer of these goods and services will receive 80,000 pesetas (80% of the employee’s disposable income).
Third Phase: The producer’s disposable income increases by 80,000 pesetas. With a marginal propensity to consume of 80%, they will use 64,000 pesetas for consumption and demand more goods and services.
Fourth Phase: The producers of other goods and services will see their disposable income increase by 64,000 pesetas. With a marginal propensity to consume of 80%, they will use 51,200 pesetas for consumption.
At the end, all the goods and services that have been demanded and produced are valued at market prices, resulting in a sum of 500,000 pesetas. This means that the domestic product grows faster than investment. Thus, an increase in investment demand has a multiplier effect on national product.
The relationship between the increase in investment demand and the increase in national product obtained is called a *simple multiplier*. It can be defined as the increase experienced by the national product when investment demand increases by a given quantity.
M = 1 / (1 – PMC)
Simple multiplier approach from the perspective of saving and investment: Disposable income equals consumption plus savings. If the increase in investment demand causes an increase in people’s disposable income equal to 100,000 pesetas, with a marginal propensity to consume of 80%, 80,000 pesetas will go to consumers. With a marginal propensity to save of 20%, 20,000 pesetas will go into savings.
M = 1 / PMA