If the price of wheat is equal to p w d w s and the

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Accounting
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Chapter 21 / Exercise 21-1
Accounting
Reeve/Warren
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If the price of wheat is equal toP*,WD=WSand the market for wheatis in equilibrium. When this is the case, producers will not change the priceof wheat. When the price isn’t equal toP*, producers will change the price ofwheat and the wheat market will go through the adjustment process detailedabove.
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Accounting
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Chapter 21 / Exercise 21-1
Accounting
Reeve/Warren
Expert Verified
42CHAPTER 3.EQUILIBRIUM AND EFFICIENCY3.4Equilibrium in Two MarketsSuppose that the economy is in the disequilibrium depicted in figure 3.4.Figure 3.4: Disequilibrium in the Corn and Wheat MarketsWhen producers bring their corn and wheat to the market, they willrealize that there is an oversupply of wheat and an undersupply of corn.Their response will be to raise the price of corn (fromPC1toPC2) andreduce the price of wheat (fromPW1toPW2). The price ratio-PW/PCwilltherefore become closer to zero, flattening the iso-profit lines. As figure 3.5shows, this will increase production of corn and reduce production of wheat,as production moves fromS1toS2.Figure 3.5 also shows the adjustment made by consumers: they move fromD1toD2. Unlike the adjustment made by producers, I can’t be sure thatconsumers will behave in this way: aggregate demand is made up of manysmall consumers, each of whom may react in a different way. Nevertheless,it seems reasonable to assume that a rise in the price of corn will reducedemand for corn and that a fall in the price of wheat will increase demandfor wheat. If one accept that consumers behave in this way, I can redraw thedemand and supply curves (we must redraw them because both prices havechanged) as shown in figure 3.6.
3.4.EQUILIBRIUM IN TWO MARKETS43Figure 3.5: An AdjustmentFigure 3.6: The New Disequilibrium in the Corn and Wheat Markets
44CHAPTER 3.EQUILIBRIUM AND EFFICIENCYThe corn and wheat markets are still not in equilibrium, but the gapsbetween supply and demand have been reduced. Producers will again raisethe price of corn and reduce the price of wheat. These changes will continueuntil both markets are in equilibrium.3.5EfficiencyThe previous section examined equilibrium in the corn and wheat markets;this section will explore efficiency in the corn and wheat markets. I definedPareto efficiency in the previous chapter, but it is such a critical definitionthat I define it again below.Definition 3An allocation of goods isPareto efficientif it is impossible tomake one person better offwithout making someone else worse off.I shall begin by re-examining efficiency in consumption.Imagine thattwo consumers come into a room and that I assign them both a bundle ofcorn and wheat. They are then allowed to trade with each other if they wishto do so. If they can find a mutually beneficial trade, the allocation that Ichose was inefficient. Figure 3.7 shows my initial allocation and a mutuallybeneficial trade. In the original allocation consumer one received the bundleAand consumer two received the bundleB. Consumer one gave consumertwoCunits of corn and receivedWunits of wheat.

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