Suppose that the government wishes to encourage the manufacture and sale of small cars. The current supply and demand of small cars are: Q^s = - 10/9 + (1/9)P; Q^d = 100 - P, where Q is in millions of cars and P is in hundreds of dollars. What is the current equilibrium price and quantity of cars sold? Now, suppose that the government is considering two alternative plans for encouraging small car sales. Under Plan A, every car manufacturer will receive a $500 rebate from the government for each car sold. Under plan B, every purchaser of a small car will receive a $500 rebate from the government. Which plan, A or B, is more effective? Why?

Question

Quizplus · Accepted Answer

Recall that the equilibrium is where Q^s equals Q^d. You need to conduct this exercise in each case. Under the government plan, however, manufacturers are receiving $5 more per unit than they were before (since prices are measured in 100's in this problem). Hence, P^s = P^d + 5. Demanders are paying the same as before. Hence, now the price in the supply equation is greater than the price in the demand equation. Using P^s in supply and P^d in demand, we can calculate the equilibrium price paid by consumers, P^d, by substituting P^s = P^d + 5 into the supply equation and solving.

Suppose That the Government Wishes to Encourage the Manufacture and Sale