In an Increasing Cost Industry, an
increase in input demand by firms in the industry causes an increase in
input prices and thereby an increase in average production costs. Also,
at a LR equilibrium, profits of all firms in the industry are zero and so
no firms are entering or exiting the market.
Assume that initially, the market or industry
is in SR and LR equilibrium at (Q1*,P1*). Suppose
demand increases from D1 to D2. If (PSR*,QSR*)
denotes the SR market equilibrium price and quantity and (QLR*,PLR*)
denotes the LR market equilibrium price and quantity, then PSR*
> PLR* > P1* and QLR* > QSR*
For a decrease in demand, the adjustment
process works in a similar fashion but changes occur in the other direction.
E.g., a decrease in demand creates a surplus, which then decreases the equilibrium
price and quantity in the short run. Negative SR profits induce firms to
leaveand profits eventually return to zero. Work through this
case on your own.