Chapter 5: The Law of Supply (Looking through the eyes of the Producer)

able (have resources/factors) to sell “Quantity Supplied” Defined:. The Quantity Supplied is the amount of a good or service that sellers are willing (motivation) and

Law of supply – the quantity supplied rises when the price of the good or service rises. $ = SUPPLY Law of Supply –As the price of a product rises, PRODUCERS will be willing to supply more.

Supply Curve Price (monthly bill) Quantity (of Cell Phone Subscribers) Notice how the law of supply is reflected by the shape of the supply curve. As the price of a good rises …... producers supply more. Supply Curve This is how much they are willing and able to sell, not how much they actually sell

Supply & Costs Relationship

Profit occurs when revenues are greater than all costs (make more than you spend).Profit occurs when revenues are greater than all costs (make more than you spend). Revenue- money made from selling products. Revenue- money made from selling products. To understand the law of supply, we must recognize that companies need profits. Role of Costs in Shaping the Supply Curve

Let us look at some examples of these costs. Variable cost are cost that CAN change month to month depending on productionVariable cost are cost that CAN change month to month depending on production Ex- changes when production increases/decreases- hourly wages of workers, electricity, shipping, gas…Ex- changes when production increases/decreases- hourly wages of workers, electricity, shipping, gas… VARIABLE COST

Let us look at some examples of these costs. Role of Costs in Shaping the Supply Curve MONTHLY INSURANCE PAYMENT MANAGER’S COMPANY CAR FIXED COST Fixed cost- are cost that CANNOT change month to month. They are steady regardless of the amount of production.Fixed cost- are cost that CANNOT change month to month. They are steady regardless of the amount of production. Ex- DO NOT change when production increases/ decreases, must be paid even if no production takes place- rent, manager’s salary.Ex- DO NOT change when production increases/ decreases, must be paid even if no production takes place- rent, manager’s salary.

Total Costs Variable Costs + Fixed Costs = Total Costs

Law of Diminishing Returns Review: Variable Cost Fixed Cost Law of Supply

As production increases, additional costs increase. –When benefits > costs: production continues –When benefits < costs: production ends Simply put, too much production can be a bad thing. Every company can reach a point where it cannot supply any more goods regardless of increases in price. LET’S LOOK AT AN EXAMPLE Law of Diminishing Returns

Elasticity Elasticity of Supply

Elastic and Inelastic Supply  ELASTIC SUPPLY: quantity supplied is SENSITIVE to small price changes  If the marginal costs to make an additional good are low, then the producer will be more likely to produce the good if the price changes.  If the marginal costs to make an additional good are high, then the producer will be less likely to produce the good if the price changes.  INELASTIC SUPPLY: quantity supplied is NOT SENSITIVE to small price changes..

Inelastic and Elastic Supply Curves $ (per auto) Quantity (per month) 27,000 24,000 21,000 15,000 13,000 5,000 10,000 15,000 20,000 25,000 Supply for Camries Supply for Corollas 18,000

Elastic and Inelastic Supply Curves If the market price for motor oil was to rise from $1.25 to $2.00, the quantity supplied in the market increases insignificantly (from 7 to 8 units). If the market price for burgers rises from $1.25 to $2.00, the quantity supplied in the market increases substantially (from 1 to 8 units). highly sensitive elastic inelastic Burger supply is highly sensitive to price changes and can be described as elastic; motor oil supply is insensitive to price changes and can be described as inelastic. INELASTIC ELASTIC Motor Oil Burgers Q $ $ Q

Elastic and Inelastic Supply Curves 100,000 75, Chopper iPod QUANTITY Price (per unit) Price (per unit)

Elasticity in Short Run and Long Run Short-Run Short-Run - Firms don’t have enough time to adjust production in a short period of time (ex: stuck with current factory size).  Supply tends to be inelastic inelastic in the short-run Long Run Run - Firms have enough time time to adjust in a longer period of time. (ex: build a larger factory, thus benefiting from mass producing a good).  Supply tends to be more elastic elastic in the long-run..

ELASTICITY and SIZE of a FIRM Which company do you think has a LOWER cost per unit (thus a larger profit margin)? ECONOMIES OF SCALE TThe MORE you produce/buy the LOWER the average cost per item. OR Grandma’s Kitchen What is this called when one benefits from mass production?? If costs rise when they produce more, then why do they produce more.

Changes in Supply vs. Quantity Supplied  Change in “Supply” - shift OF the supply curve due to a determinate change.  Change in “Quantity Supplied” - movement ON the supply curve in response to a price change. 15 $ Price Quantity A shift to the left = decrease in supply A shift to the right = increase in supply 15 $ Price Quantity

THE DETERMINANTS OF SUPPLY THE ONLY FACTORS THAT CAN CAUSE A SUPPLY CURVE TO SHIFT TO THE LEFT (decrease) OR RIGHT (increase). 15 $ Price Quantity

5. INPUT COSTS (inverse relationship) 3. SIZE OF INDUSTRY (positive relationship) 6. TECHNOLOGY (positive relationship) 4. PRICE OF RELATED PRODUCT LINES 2. OUTLOOK OF FUTURE (Supplier’s Expectations) Taxes, Subsidies, Regulations THE DETERMINANTS OF SUPPLY “GO SPIT” 1. GOVERNMENT ACTIONS Look at the market price of a good to determine which one to produce.

Outlook of Future (positive relationship) THE DETERMINANTS OF SUPPLY  Gas companies, expect that consumer demand after the storm will increase so they cut back on the current supply (shift left).  After the storm hits and demand increases, suppliers will increase their supply until it runs out (usually because they take advantage of the higher prices). A storm is predicted to destroy most of the seaports where most imported oil is delivered. $ Price Quantity(gallons) m10m 5.00

PRICE OF RELATED GOODS THAT SHARE THE SAME RESOURCES Look at the market price of a good to determine which one to produce.Look at the market price of a good to determine which one to produce. THE DETERMINANTS OF SUPPLY  DONUT COMPANY: price of donuts decreases  Less likely to produce donuts and more likely to use the dough to produce more donut holes (supply curve for rolls shifts right)  THEREFORE, an increase in price of good the resources could go toward = supply curve of the other good decreases (shifts left) $= SUPPLY

As the price of resources goes then a supplier will the supply of a good and look for something else to make. RESOURCE PRICES (inverse relationship) THE DETERMINANTS OF SUPPLY $ As the price of resources goes then a supplier will the supply of a good because he/she is making a profit. $ LUMBER $ = SUPPLY HOUSE CONSTRUCTION

TECHNOLOGY (positive relationship) THE DETERMINANTS OF SUPPLY Increase in technology = increase in amount supplied (shifts right) Decrease in technology = decrease in amount supplied (shift left) T = SUPPLY

ME ANY QUESTIONS THE END