## Step 4 – Supply,
Demand and Equilibrium

Now we assume that
currently the market is in equilibrium. You have derived the
oil supply curve (step three), and will determine the current
quantity of oil demand, the current price, and the demand equation
in the steps below.

## Comprehension

1)
What factors influence consumer demand for oil?

2)
What happens to demand if the price is raised?

3)
What happens to demand if the price is lowered?

4)
What might cause a surplus of oil?

5)
What might cause a deficit of oil?

## Acquisition

Some of the concepts
introduced in this section (demand, equilibrium) may be unfamiliar
to you. To see precise definitions and examples, click here
or see the menu topic.

## Application

### Assumptions

### Equilibrium
Assumption

### The market is in equilibrium.

### Community Use of Gasoline

The current number
of vehicles is 10,000.

The
average gas mileage per vehicle is 20 mpg.

The average miles
each car is driven annually is 12,500 per vehicle.

Currently, a 10%
increase in the price of gasoline (or oil*) produces a 2% decrease
in demand.

The demand equation
is linear.

Relationships
Between Oil And Gasoline

One barrel of oil
yields 20 gallons of gasoline.

The price of 1 gallon
of gasoline is 1/20 the price of a barrel of oil.

The markup on gasoline
is 50%.

* Note from the assumptions regarding the relationship
between oil and gasoline that the 10% increase in price of gasoline
and 2% decrease in its demand will have the same effect on price
and demand for oil.

**Questions**

Follow the steps
below to determine the price and quantity of oil supply and
demand. Round answers to two decimal places.

1)
How many gallons of gasoline are used by the community
**per day** (round to the nearest gallon)?

2)
How many barrels of oil are required to produce that
much gasoline (round to the nearest barrel)?

3)
What is the price of a barrel of oil? Use the supply
function and your answer to question #2 to answer this.

4)
In the three steps below, determine the equation which
gives the demand for oil.

a)
We will first determine points (q,p) relating price p
per barrel and quantity q demanded. The first point is the
current demand and price for oil as determined in this set of
questions. For the second point, use the appropriate assumption
to find the demand and price if the price increases 10%.

b)
Use these two points to write a linear demand function
which expresses selling price of oil as a function of the number
of barrels.

5)
Graph the supply and demand curves on the same coordinate
system. Label the equilibrium point.

6)
Use the appropriate assumption to determine the current
selling price of gasoline? What is the total daily expenditure
for gasoline?

## Reflection

Many factors in addition
to price might influence supply and demand. These factors will
lead to a *shift* in the supply or demand curve.

1)
Suppose that the community changes to more fuel efficient
vehicles and that the average fuel efficiency rises to 25 miles
per gallon. How would that change your answers?

2)
Suppose that improved drilling methods cause the fixed
costs of oil production to decrease from $600 to $550. How
would that change your answers.