1 Over the past few years the price of a gallon of gasoline

1. Over the past few years the price of a gallon of gasoline in the U.S. has fallen a great deal. This decrease in gasoline prices has affected the market for large SUVs in the U.S. (These are cars that have lower MPG than larger cars.) a) According to the competitive market model, how do the lower gasoline prices affect the equilibrium average price and quantity of large SUVs in the U.S.? (Do large SUV prices rise, orfall, orstay the same? Does the equilibrium quantity of large SUVsrise, orfallorstay the same?) Explain your answer carefully. b) What is the proper way to illustrate the effect of lower gas prices on the large SUV market? (Does the demand curve shift up/right, or does the demand curve shift down/left, ordoes the supply curve shift up/left, or does the supply curve shift down/right?ßOnly ONE of these four things occurs)

Solution

Price of gasoline has fallen in US.
The large SUVs market have lower MPG i.e. miles per gallon than the larger cars.
a) In the short run, the price of large SUV will fall down due to low demand. As price of gasoline has fallen people will not be bothered about Miles per gallon that much i.e. they will look for comfort, luxury , etc in cars rather than going for bugetary cars like large SUVs. So, price of large SUV will fall and the quantity will increase as demand will be less.
b) Low gas price means SUV price will also be low. The demand goes down in the short run but as the price of gasoline increases people will buy large SUV and hence the demand increases in the long run until and unless it achieves equlibrium.