Supply

We now look at the supply side of markets. The suppliers are firms, which are in business to
make the goods and services that consumers want to buy.

Firms motives

Economic theory gives firms several attributes.

Firstly, each firm is assumed to make consistent decisions, as though it was

run by a single individual decision-maker.

Secondly, firms hire workers and invest capital and entrepreneurial talent in
order to produce goods and services that consumers wish to buy.

Thirdly, firms are assumed to make their decisions with a single goal in mind:
to make as much profit as possible.

The nature of supply

The amount of a product that firms are able and willing to offer for sale is called the
quantity supplied.

Supply is a desired flow: how much firms are willing to sell per period of time, not how much
they actually sell.

The determinants of quantity supply

Three major determinants of the quantity supplied in a particular market are:

the price of the product;

the prices of inputs to production;

the state of technology.

Supply and price

For a simple theory of price, we need to know how quantity supplied varies with a products
own price, all other things being held constant.

The quantity of any product that firms will produce and offer for sale is positively related to the
products own price, rising when the price rises and falling when the price falls.

A market supply schedule for eggs

The table shows the quantities that producers wish to sell at various prices,
ceteris paribus.

For example, row y indicates that if the price were 2.50, producers would
wish to sell 115,000 dozen eggs per month.

The data in this table are plotted in the following figure.

A supply curve for eggs

The six points correspond to the price-quantity combinations shown in Table

A Market Supply Schedule for Eggs.
 The curve drawn through these points, labeled S, is the supply curve
showing the quantity of eggs that will be supplied at each price of eggs.

The supply curves positive slope indicates that quantity supplied increases
as price increases.

Two supply curves for eggs

The rightward shift in the supply curve from S0 to S1 indicates an increase in

the quantity supplied at each price.

For example, at the price of 1.00 the quantity supplied rises from 46 to 76
thousand dozen per month.

Shifts in the supply curve

A shift in the supply curve from S0 to S1 indicates more is supplied at each

price.

Such an increase in supply can be caused by:

Improvements in the technology of producing the commodity

A fall in the price of inputs that are important in producing the

commodity

A shift in the supply curve from S0 to S2 indicates less is supplied at each

price.

Such a decrease in supply can be caused by:

A rise in the price of inputs that are important in producing the

commodity.

Changes in technology that increase the costs of producing the

commodity (rare).

The determination of price

So far we have considered demand and supply separately.

We now outline how demand and supply interact to determine price.

The concept of a market

A market may be defined as an area over which buyers and sellers negotiate the exchange
of some product or related group of products.

It must be possible, therefore, for buyers and sellers to communicate with each other and to
make meaningful transactions over the whole market.

Demand and supply schedules for eggs and equilibrium price

Equilibrium occurs where the quantity demanded and the quantity supplied
are equal.

In the table the equilibrium price is 1.50.

 The equilibrium quantity bought and sold is 77.5 thousand dozen per
month.

For prices below the equilibrium, such as 0.50, quantity demanded (110)
exceeds quantity supplied (5).

For prices above the equilibrium, such as 3.00, quantity demanded (60) is
less than quantity supplied (122.5).

The data in this table are plotted in the following figure.

Determination of the equilibrium price of eggs

Equilibrium price is where the demand and supply curves intersect, point E
in the figure.

At all prices above equilibrium there is excess supply and downward

pressure on price.

At all prices below equilibrium there is excess demand and upward pressure
on price.

The laws of demand and supply (i) shifts in demand

The original curves are D0 and S, which intersect to produce equilibrium at

E0.

Price is p0, and quantity q0.

An increase in demand shifts the demand curve to D1.

Price rises to p1 and quantity rises to q1 taking the new equilibrium to E1.

A decrease in demand now shifts the demand curve to D0.

Price falls to p0 and quantity falls to q0 taking the new equilibrium to E0.

Thus, an increase in demand raises both price and quantity while a decrease
in demand lowers both price and quantity.

The laws of demand and supply (ii) shifts in supply

The original demand and supply curves are D and S0, which intersect to
produce an equilibrium at E0, price p0 and quantity q0.

An increase in supply shifts the supply curve to S1. Price falls to p1 and
quantity rises to q1, taking the new equilibrium to E1.

A decrease in supply shifts the supply curve back to S0. Price rises to p0 and
quantity falls to q0 taking the new equilibrium to E0.

Thus an increase in supply raises quantity but lowers prices while a decrease
in supply lowers quantity but raises price.