SupplySupply

Chapter 5Chapter 5

Section 1Section 1

What is Supply?What is Supply?

An Introduction to SupplyAn Introduction to Supply Supply is the amount of a product that Supply is the amount of a product that

would be offered for sale at all possible would be offered for sale at all possible prices in the market.prices in the market.

The Law of Supply states that suppliers The Law of Supply states that suppliers will normally offer more for sale at high will normally offer more for sale at high prices and less at lower prices.prices and less at lower prices.

An individual supply curve illustrates how An individual supply curve illustrates how the quantity that a producer will make the quantity that a producer will make varies depending on the price that will varies depending on the price that will prevail in the market. A market supply prevail in the market. A market supply curve illustrates the quantities and prices curve illustrates the quantities and prices that all producers will offer in the market that all producers will offer in the market for any given product or service.for any given product or service.

Supply CurveSupply Curve

Economists analyze supply by listing Economists analyze supply by listing quantities and prices in a supply quantities and prices in a supply schedule (table). When the supply schedule (table). When the supply data is graphed, it forms a supply data is graphed, it forms a supply curve with an upward slope.curve with an upward slope.

Change in Quantity SuppliedChange in Quantity Supplied

A change in quantity supplied is the A change in quantity supplied is the change in the amount offered for change in the amount offered for sale in response to a change in price.sale in response to a change in price.

Producers have the freedom, if prices Producers have the freedom, if prices fall too low, to slow or stop fall too low, to slow or stop production or leave the market production or leave the market completely. If the price rises, the completely. If the price rises, the producer can step up production producer can step up production levels.levels.

Change in SupplyChange in Supply

A change in supply is when suppliers A change in supply is when suppliers offer different amounts of products for offer different amounts of products for sale at all possible prices in the market.sale at all possible prices in the market.

Factors that can cause a change in Factors that can cause a change in supply include: the cost of inputs; supply include: the cost of inputs; productivity levels; technology; taxes productivity levels; technology; taxes or the level of subsidies; expectations; or the level of subsidies; expectations; and government regulations.and government regulations.

Elasticity of SupplyElasticity of Supply

Supply is elastic when a small Supply is elastic when a small increase in price leads to a larger increase in price leads to a larger increase in output and supply.increase in output and supply.

Supply is inelastic when a small Supply is inelastic when a small increase in price cause little change increase in price cause little change in supply.in supply.

Supply is unit elastic when a change Supply is unit elastic when a change in price causes a proportional change in price causes a proportional change in supply.in supply.

Determinants of supply elasticity are Determinants of supply elasticity are related to how quickly a producer can act related to how quickly a producer can act when the change in price occurs. If when the change in price occurs. If adjusting production can be done quickly, adjusting production can be done quickly, the supply is elastic. If production is the supply is elastic. If production is complex and requires much advance complex and requires much advance planning, the supply is inelastic. Another planning, the supply is inelastic. Another factor is substitution: if substituting for a factor is substitution: if substituting for a given product is easy, the supply is elastic; given product is easy, the supply is elastic; if it is difficult to substitute, the supply is if it is difficult to substitute, the supply is inelastic.inelastic.

Section 2Section 2

The Theory of The Theory of ProductionProduction

Law of Variable ProportionsLaw of Variable Proportions

In the short run, output will change In the short run, output will change as one variable input is altered, but as one variable input is altered, but other inputs are kept constant.other inputs are kept constant.

The Law of Variable Proportions looks The Law of Variable Proportions looks at how the final product is affected at how the final product is affected as more units of one variable input or as more units of one variable input or resource are added to a fixed resource are added to a fixed amount of other resources.amount of other resources.

Economists prefer that only a single Economists prefer that only a single variable be changed at any one time variable be changed at any one time so the impact of this variable on total so the impact of this variable on total output can be measured.output can be measured.

The Production FunctionThe Production Function

This concept illustrates the Law of This concept illustrates the Law of Variable Proportions within a Variable Proportions within a production schedule or a graph.production schedule or a graph.

It describes the relationship between It describes the relationship between changes in output to different changes in output to different amounts of a single input while amounts of a single input while others are held constant.others are held constant.

Total product is the total output the Total product is the total output the company produces: a production company produces: a production schedule shows that, as more workers schedule shows that, as more workers are added, total product rises until a are added, total product rises until a point that adding more workers causes point that adding more workers causes a decline in total product.a decline in total product.

Marginal product is the extra output or Marginal product is the extra output or change in total product caused by change in total product caused by adding one more unit of variable input.adding one more unit of variable input.

Three Stages of ProductionThree Stages of Production

In Stage 1 (increasing returns), In Stage 1 (increasing returns), marginal output increases with each marginal output increases with each new worker. Companies are tempted new worker. Companies are tempted to hire more workers, which moves to hire more workers, which moves them to Stage 2.them to Stage 2.

In Stage 2 (diminishing returns), total In Stage 2 (diminishing returns), total production keeps growing but the rate production keeps growing but the rate of increase is smaller; each worker is of increase is smaller; each worker is still making a positive contribution to still making a positive contribution to total output, but it is diminishing.total output, but it is diminishing.

In Stage 3 (negative returns), In Stage 3 (negative returns), marginal product becomes negative, marginal product becomes negative, decreasing total plant output.decreasing total plant output.

Cost, Revenue, and Profit Cost, Revenue, and Profit MaximizationMaximization

Section 3Section 3

Measures of CostMeasures of Cost

Fixed costs are those that a business has Fixed costs are those that a business has even if it has no output. These include even if it has no output. These include management salaries, rent, taxes, and management salaries, rent, taxes, and depreciation on capital goods.depreciation on capital goods.

Variable costs are those that change Variable costs are those that change when the rate of operation or production when the rate of operation or production changes, including hourly labor, raw changes, including hourly labor, raw material, freight charges, and electricity.material, freight charges, and electricity.

Total cost is the sum of all fixed costs Total cost is the sum of all fixed costs and all variable costs.and all variable costs.

Marginal cost is the extra (variable) Marginal cost is the extra (variable) costs incurred when a business costs incurred when a business produces one additional unit of a produces one additional unit of a product.product.

Applying Cost PrinciplesApplying Cost Principles

A self-service gas station is an A self-service gas station is an example of high fixed costs with low example of high fixed costs with low variable costs. The ratio of variable variable costs. The ratio of variable to fixed cost is low.to fixed cost is low.

E-commerce is an example of an E-commerce is an example of an industry with low fixed costs.industry with low fixed costs.

Measures of RevenueMeasures of Revenue

Total revenue is the number of units Total revenue is the number of units sold multiplied by the average price sold multiplied by the average price per unit.per unit.

Marginal revenue is the extra Marginal revenue is the extra revenue connected with producing revenue connected with producing and selling an additional unit of and selling an additional unit of output.output.

Marginal AnalysisMarginal Analysis

Marginal analysis is comparing the extra Marginal analysis is comparing the extra benefits to the extra costs of a particular benefits to the extra costs of a particular decision.decision.

The break-even point is the total output or The break-even point is the total output or total product the business needs to sell in total product the business needs to sell in order to cover its total costs.order to cover its total costs.

Businesses want to find the number of Businesses want to find the number of workers and the level of output that workers and the level of output that generates maximum profits. The profit-generates maximum profits. The profit-maximizing quantity of output is reached maximizing quantity of output is reached when marginal cost and marginal revenue when marginal cost and marginal revenue are equal.are equal.