SUPPLYSUPPLYChapter 5Chapter 5

SUPPLY ISSUPPLY IS

Supply is NOT how much of a good is sitting on the Supply is NOT how much of a good is sitting on the grocery store shelves --- instead it is how much grocery store shelves --- instead it is how much producers are willing to supply of a given product at all producers are willing to supply of a given product at all possible prices.possible prices.

SUPPLY = THE AMOUNT OF PRODUCT OFFERED FOR SUPPLY = THE AMOUNT OF PRODUCT OFFERED FOR SALE AT ALL POSSIBLE MARKET PRICESSALE AT ALL POSSIBLE MARKET PRICES

WHAT IS THE LAW OF SUPPLY?WHAT IS THE LAW OF SUPPLY? The higher the price, the more suppliers are willing to produce…The higher the price, the more suppliers are willing to produce…

and vice versaand vice versa Individual firms change levels of production in accordance with Individual firms change levels of production in accordance with

price – the search for profit drives a producer’s decision to price – the search for profit drives a producer’s decision to make more or less of a productmake more or less of a product

LAW OF SUPPLYLAW OF SUPPLYSupply Schedule

Price per Unit $

Quantity Supplied

20 16014 10010 807 605 404 202 0

As increasingly lower prices are offered, suppliers are LESS willing to supply goodsAs increasingly

higher prices are offered, suppliers are MORE willing to supply goods

Price & quantity move in thesame direction for supply.How does this differ from demand?

SUPPLYCURVES

Supply curves are upward sloping – from lower left to upper right

Supply Curves reflect how the quantity that a producer will make rises as the price in the marketplace rises.

SUPPLY CURVESUPPLY CURVE

Quantity Supplied20 40 60 12010080 140 160 180

PriceperUnit

$

24

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24s

s

A CHANGE IN QUANTITY SUPPLIED is the amount offered for salepurely in response to a CHANGE IN PRICE.

ELASTICITY OF SUPPLYELASTICITY OF SUPPLY(how quantity supplied by producers responds to (how quantity supplied by producers responds to changes in price)changes in price)

ELASTICELASTIC a a smallsmall increase OR increase OR

decrease in price leads decrease in price leads to a to a largelarge change in change in quantity suppliedquantity supplied

supply in the long term supply in the long term will be more elastic – will be more elastic – why?why?

3 POSSIBILITIES:

UNITARY ELASTICUNITARY ELASTIC % Price Changes = % % Price Changes = %

change in quantity change in quantity suppliedsupplied

e.g., doubling in price = e.g., doubling in price = doubling in quantity doubling in quantity suppliedsupplied

INELASTICINELASTIC a change in price a change in price

causes causes little little changechange in the in the quantity suppliedquantity supplied

Supply in the Supply in the short-term will be short-term will be inelastic – why?inelastic – why?

DETERMININGDETERMININGSUPPLY ELASTICITYSUPPLY ELASTICITY

The only thing that determines elasticity of supply is The only thing that determines elasticity of supply is production considerations.production considerations. If a firm can respond & adjust quickly = If a firm can respond & adjust quickly = elasticelastic If production is complex and requires lots of advance If production is complex and requires lots of advance

planning = planning = inelasticinelastic Supply elasticity differs from demand elasticity in that Supply elasticity differs from demand elasticity in that

the number of substitutes has no effect at all on the number of substitutes has no effect at all on supplysupply

Determined solely by this question:How quickly and easily can we makeor find more?

DETERMINING SUPPLY DETERMINING SUPPLY ELASTICITYELASTICITY

Oil and gasElectrical energy

Milk

Candy

Medical care

Oceanfront property

Elastic or InelasticElastic or Inelastic??

CHANGE IN SUPPLYCHANGE IN SUPPLY

Cost of Inputs(raw materials,machinery, labor, etc.)

Productivity(motivated vs. unmotivated)

Government regulation

Expectations

A change in supply is when suppliers offer different amounts of products for sale at all possible prices in the market. The entire supply curve shifts. BUT, what causes the change?

Why doesWhy doessupply change?supply change?

Taxes and Subsidies(Which causes increase?)(Which causes decrease?)

Technology(Which way will supply curve shift?)

Number of sellers(Which way does supply curve shift?

KNOW THE DIFFERENCE!!

Quantity Supplied20 40 60 12010080 140 160 180

PriceperUnit

$

24

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24s

s

p1

p2

q1 q2

If the only variable is a change in price, it’s a ….Change in Quantity Supplied!

Does the graph below represent a“change in quantity supplied” or a “change in supply?”

Change in Supply

Quantity Supplied

20 40 60 12010080 140 160 180

PriceperUnit

$

2

4

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24s

s

s1

s1

s2

s2

Means there is a new supply provided at each and every price….a totally new supply curve that has shifted either right or left.

Draw theoretical curves to show the following:

1. The cost of sheet metal has increased

2. Workers have received extra training

3. A better machine is installed and running

4. Many sellers have left the business

5. The government keeps increasing the tax on our product

6. Our product is red hot

7. The government is going to relax the clean air laws

Determining output will have a direct relation with the factors of production……such as labor

Generally, as you add more workers, what would you expect to happen to output? Increase – why? Workers can specialize; division of labor; etc.

BUT, what ultimately happens if too many workers are added? Producers need to determine the marginal product of labormarginal product of labor,

i.e., the change in output when an additional worker is hired

Costs of ProductionCosts of ProductionHow does a firm decide how much to produce?

THE THREE STAGES OF PRODUCTION1. Increasing marginal returns

Adding additional worker(s) increases marginal product of labor

2. Diminishing marginal returns Continuing to add additional worker(s) starts

to decrease the marginal product of labor3. Negative returns

WHY?

Stages of ProductionStages of Production

EFFECT OF PRODUCTION EFFECT OF PRODUCTION COSTS ON SUPPLY:COSTS ON SUPPLY: FIXED EXPENSES/COSTSFIXED EXPENSES/COSTS are those that have

to be paid regardless of the amount of production Executive salaries, rent, taxes, depreciation,

capital goods VARIABLE EXPENSES/COSTSVARIABLE EXPENSES/COSTS are those that

will depend on the amount of business being done Labor and raw materials

BREAK-EVEN POINTBREAK-EVEN POINT Total amount producer needs to sell in order to Total amount producer needs to sell in order to

cover production costscover production costs ““Total costs of Production” Total costs of Production” = =

Fixed & Variable Expenses combined Fixed & Variable Expenses combined

FIXED OR VARIABLE FIXED OR VARIABLE COSTS?COSTS? An advertisement for the store An advertisement for the store

that runs in the local newspaper that runs in the local newspaper every week?every week? FIXED COSTFIXED COST

5 new workers hired to help 5 new workers hired to help out in the holiday seasonout in the holiday season VARIABLE COST – THEIR VARIABLE COST – THEIR

HOURS WILL NOT ALWAYS HOURS WILL NOT ALWAYS BE THE SAME AMOUNT BE THE SAME AMOUNT

A store’s electrical bill?A store’s electrical bill? VARIABLE COSTVARIABLE COST

Cost of pizza dough for a Cost of pizza dough for a pizzaRIA parlor?pizzaRIA parlor? VARIABLE COSTVARIABLE COST

Equilibrium / Market Clearing