Supply Unit 3, Part 2 Chapter 5

Section 1: Understanding Supply Supply is the amount of goods available at various prices Law of Supply: the higher the price, the greater the quantity supplied by producers

Explanation for the Law of supply: 1. Higher Production The expectations of higher prices is an incentive for more companies to produce more 2. Market Entry When prices and profits are high in a market, that is an incentive for other businesses to enter the market

The Supply Schedule $0 $7 $12 A supply schedule is a chart showing the quantities that will be supplied at various prices A change in quantity supplied occurs when the price changes and producers change the amount they will produce Wage Hours Supplied $0 $7 $12 As with the vending machine survey, do a survey with the class. Tell them a neighbor – someone they know, but not say a relative who they feel obliged to help – needs some yardwork done on a Saturday, with ten being the maximum amount. Ask them how many hours they will work at $0/hour. Zero is fine, you’re busy. Allow them to answer in ½ hour increments if they wish, two and half hours for example. Add up with a calculator. Do the same at $7/hour and at $12/hour – again ten is the maximum. The class answer should reflect the law of supply. As the price (wage) increases, the number of hours people work will increase.

Section 2: Costs of Production If prices go up, producers will offer more for sale. But, how do individual producers decide how much to make? Businesses can look at either total revenue or marginal revenue to determine output

Production over time In general as a business produces more, it’s costs go down (greater efficiency) Then, costs begin to increase (Law of Diminishing Returns) Why? Capital is fixed in the short run

Marginal Analysis Marginal means “extra” or “additional” Marginal Revenue – the benefit of an additional action or choice Marginal Cost – the cost of an additional action or coice In Marginal Analysis, a business looks at the last unit produced or last worker hired and keeps hiring as long as they’re making $ Produce until Marginal Revenue = Marginal Cost

Marginal Revenue In the chart of above, workers are paid $10/hour. The product sells for $2.50. As more workers are hired, more will be produced. But costs also go up. Students should be able to recognize the point that businesses should stop hiring workers. It’s not the first worker – who does have the highest marginal revenue, nor is it the 6th worker, who has the highest total revenue. It is the 3rd workers – that is the point where marginal revenue equals marginal cost. The first worker generates more revenue than he/she costs ($15 v. $10). The second worker also generates more revenue ($12) than they cost ($10). The third worker generates an equal amount of revenue, $10, compared to the cost ($10). The fourth workers generates less revenue ($7.50) than they cost ($10), so they shouldn’t be hired. Students who work in retail or fast food might recognize an example of this if the manager sends people home when things get slow. Managers today must contantly check the amount of sales per hour (marginal revenue) and if their cost of labor (marginal cost) is higher than the sales, somebody gets sent home. After these notes, I often play the “glove factory” game. It’s a factory simulation in which students produce a product (hand outline) in a short time span (1 minute). Each round 1 worker is added to the factory. The point is to see when their marginal production starts decreasing.

Section 3: Changes in Supply A change in supply occurs if businesses are willing to produce more or less product at a certain price Supply changes are related to the cost of production If it costs more to produce a product, the supply will decrease. If it costs less to produce, the supply will increase. Remind the students that like demand, there is a difference between a quantity supply change and a supply change.

As with demand, an increase is to the right, a decrease to the left. Note that the increase looks like it is below the original supply curve. Warn the students that this is an incorrect way of viewing the shift. It is moving further from the origin, so it is an increase.

Input Costs Change in the cost of factors of production – higher costs decrease supply Technology – new technology increases supply

Government 3. Subsidies – a government payment that supports a business or market increase the supply curve 4. Taxes & Regulations –Taxes & Regs. Increase a business’ cost. decrease the supply curve

Other Factors 5. Future Expectations of prices – if producers expect prices to increase, they will decrease supply now, and vice-versa. 6. Number of suppliers – more producers increases supply, fewer suppliers will decrease supply. If producers expect the price to increase in the future – say gas or building supplies after a hurricane, they will pull their supply off the market now so they can sell it later.