Supply and Demand

Supply

Supply

The willingness and ability of potential sellers to offer various amounts of goods at various prices at various times

Businesses supply the goods and services demanded by households

Law of Supply

The law of supply states that as the price of a good increases, the quantity supplied of that good increases.

This is common sense since if an individual can make more by producing more then more is produced.

Increase in Supply When an important factor

other than the price of a good itself changes, a change in the supply of that good can occur. An increase in supply means producers are willing to supply more of a good at each price. Graphically, an increase in supply appears as a rightward (or upward) shift of the supply curve.

Decrease in Supply A decrease in supply

means producers are not willing to sell as many units at each price as before. Graphically, a decrease in supply appears as a leftward shift of the supply curve.

Supply Schedule

Table showing what potential sellers would provide various amounts of product at a given price

P = price per unit Q = total amount

P Q(in millions)

$1.00 0

$1.50 5

$2.00 10

$2.50 15

$3.00 20

Supply Curve

Graphical representation of a supply schedule

Why does the price per bushel go up the more bushels that are ordered?

What happens when you order more of a product from the store?

CHANGE IN QUANTITY SUPPLIEDVS. A CHANGE IN SUPPLY

Make a mental note to connect the words quantity and price.

A change in price creates a change in the quantity supplied. This is movement along the supply curve, it is a positive slope curve and reflects a direct relationship. When the price goes up the quantity supplied goes up as well.

A change in supply causes a shift of the entire supply curve. These changes are caused by shifters or determinants.

DETERMINANTS OR SHIFTERS#1 – THE COST OF INPUTS* An input is something used to produce

the good such as labor or materials. You know these as the factors of production.

If the cost of inputs change then the cost of production and the resultant profit margin change. When labor cost goes up and the producer cannot raise his price, the supply curve shifts left

#2 TECHNOLOGY

When technology improves it creates greater efficiency and lowers the cost of production so that the supply curve shifts right. More can be made without costing more.

A loss of technological skill or know how would create inefficiency and shift the curve to the left.

#3 – NUMBER OF FIRMS

As more firms come into the industry, the supply curve shifts to the right to reflect an increase.

As firms leave for various reasons, the supply curve shifts to the left reflecting a decrease.

#4 PRICE OF SUBSTITUTE PRODUCTS

A substitute product is one that can be produced with the same or nearly the same set of inputs. When the price of a substitute product of a good goes up, the opportunity cost of producing the good goes up.

This changes the curve as choices necessitated by scarcity are made.

#5 PRICE OF JOINT PRODUCTS

Joint products are goods that are almost always produced together because it is difficult to produce them separately.

If you cut trees for lumber you also have wood shavings. Both are products

If the price of the joint product goes up, the supply goes up and if the price of the joint product goes down, the supply goes down.

Price Elasticity of Supply

The proportionality with which the quantity of a commodity offered for sale on the market changes in response to a given change in the going price

E = (% change in supply X)/(% change in price of X)

The Arc Elasticity of Supply

The arc elasticity of supply refers to the relationship between changes in price and the subsequent change in quantity supplied.

Qo is the initial quantity supplied. Q1 is the new quantity supplied.

Po is the initial price. P1 is the new price.

The Arc Elasticity of Supply

Firms will increase production if they believe market prices for the good or service they produce will increase in the future, and if they believe such a price rise will be a permanent change in the market. (There is no incentive to increase production and stocks, if prices are expected to fall again in the near future).

Elasticity of Supply

In the ''short run'', supply is reasonably elastic; however labor costs may rise per unit of production if your work force is paid penalty rates for night shifts and weekend shifts.

In the long run, firms have the time to invest in new capital. In the ''long run'', supply is at its most elastic, as production can be increased markedly.

Inelastic supply means E is less than 1 Elastic supply means E is greater than

1 Unit elastic supply means E = 1

Supply Relationship

What would a shift in this curve to the right mean?

What would a shift in this curve to the left mean?

What would affect this curve to shift?

Elastic Supply The diagram to your left

indicates a good which has an elastic supply curve. An icecream manufacturer can rapidly increase production, if hot weather is forecast. Sales are likely to increase by a large amount. The demand for icecreams would have to rise by only a small amount (to P1 from Po) to justify the large increase in quantity supplied. (Q1 less Qo).

Inelastic Supply

The diagram to your left indicates a good which has an inelastic supply curve. It is possible, for example, to grow tomatoes all year round. To grow tomatoes in winter requires glass houses, heating, and supplementary lighting in the right wave lengths, to compensate for the shorter days and longer nights. However, it can be done; but at a considerable cost.

Inelastic Supply

The price of tomatoes would have to rise by a considerable amount (to P1 from Po) to justify the small increase in quantity supplied. (Q1 less Qo).

Substitution Effect

Is applied when there is a “substitute” product a person can buy if the price of a product goes up or if supply runs out.

How does this affect supply? How does this effect demand? How does this affect pricing?

Income effect

The price of a good can affect how a person feels about his or her income. If it’s too high, a person feels poor, causing them not to buy the product, hence lowering demand by for a certain population.

How does this affect pricing?

Key Results of Shifts in Demand

An event that increases supply causes the supply curve to shift outward and to the right. If the demand curve is not affected, then the equilibrium price will decrease and the equilibrium quantity will go up.

Key Results of Shifts in Demand

An event that decreases supply causes the supply curve to shift inward and to the left. If the demand curve is not affected, the equilibrium price will increase and the equilibrium quantity will go down.

Marginal Utility

Total utility is the total amount of satisfaction gained from consumption

Marginal utility is the amount gained every time the product or service is consumed

Chocolate eaten

Marginal Satisfaction

Total Satisfaction

0 0 0

1 70 70

2 10 80

Law of Diminishing Returns

Cho

cola

te C

onsu

med

Marginal Utility0

1

2

3

4

5

The Business Cycle

Regular up and down movements in the economy, usually measured in real GDP

Contraction

Trough

Expansion

Peak

Recession

Depression

GDPUnemploymentJob rateInflation

Group Work

P Q(in millions)

$1.00 0

$1.50 5

$2.00 10

$2.50 15

$3.00 20