As evidence, after spiking to record highs in early summer,lumber priceshave now fallen below their price at the start of the year. The reason for thedramatic price increaseearlier in the year was a combination of reduced supply in 2019 and a surge in demand in 2020. In 2019, many lumber companies reduced capacity and closed mills to cut costs. Then in 2020, as more people began working from home they started fixing up their homes, and low interest rates led to an increase in new housing construction. As demand soared, lumber companies expanded their output capacity to meet the new demand. Now, as the economy reopens and people begin venturing outside of their homes, the demand for DIY projects has collapsed, leading to prices returning to their previous level.

a. Use supply and demand graphs to illustrate the increase and subsequent decrease of lumber prices based on the conditions described above. Explain the rational for any changes illustrated in supply or demand.

b. Based on your models, what can you say will happen to equilibrium quantity in the lumber market? Will it increase, decrease, or is it uncertain?

c. What would you expect to happen to the equilibrium prices and quantities for composite board (a substitute for lumber) and nails (a complement to lumber) when the price of lumber decreases?

d. Would you expect theprice elasticity of supply(i.e. how sensitive production is to changes in prices) for lumber to be elastic or inelastic? Explain what factors inform your expectation.