Question

Suppose the supply schedule for gasoline depends on the expected price in the current time period, as the current price is not known when suppliers makes supply decisions. Explain how this “tweak” to the supply and demand model potentially changes your understanding of market behavior.

Answer 1

This tells us that market behavior depends mostly upon expectations . So this gives rise to the sticky price theory . As suppliers prepare the supply targets based on expected price , they are unaware of sudden changes or current price . So there is always a time lag in market equilibrium . At current price the supply cannot alter suddenly since it has been prepared based on previous expectations which may not match current price .

Short term aggregate supply for goods like gasoline cannot alter all of a sudden and hence a stickyness in price appears . The suppliers wish to stick to their price as per expected while the market conditions or demand may cause disequilibrium .