The law of supply in economics states that supply will increase as price increases, due to the fact that producers want to maximize profits. In this instance, the law assumes that all other factors are equal and price is the only independent element, meaning supply is completely dependent on the price. The concept of "quantity supplied" refers to the amount of the item that is available. Quantity has a close relationship with the price of the item. According to supply law, the quantity supplied will decrease when price decreases, as there's less opportunity for sellers to profit.
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A supply schedule indicates the supply of a good at specific price points. For example, if the price of a sweater is $2/unit, the supply would be 2, and if the price is $4, supply would rise to 4. Here follows the supply schedule along with a graphical illustration of the supply movement.
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When there's nothing to buy (0 supply), the price will naturally be 0, but as soon as a product becomes available (a supply is realized), there will be a price for that product. As the price of that product increases, there'll be more opportunity to profit in the market, which brings along more suppliers and thus, more supply.
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Production alternatives play a big role with suppliers; affecting their product choices. Production alternatives point to other products that a supplier can produce instead. Alternatives are usually more profitable, hence their heavy influence on suppliers' decisions. If a big apple farmer can increase their profit by selling oranges instead, the market supply of apples will drop when the farmer shifts over to oranges.
Price of The Good
As stated in accordance with the law of supply, the supply of a certain good will increase proportionately to an increase in price. When the price of a good rises, supplying that good becomes more lucrative, which lures more suppliers aiming to capitalize on the high profit margins. The price of goods are further affected by other market factors.
Price of Related Good
The supply of a certain good can also be affected by the price of related goods. This is found in the connection between a good and its related goods. Leather is the ideal example of this. A related good of leather is cow meat, as both goods come from cows. The price of leather's related good, which is cow meat, can affect the price of leather itself. If the price of cow meat drops, less cows will be butchered to supply cow meat according to the law of supply. This in turn, means there'll be a smaller supply of leather as the price drops.
Production Conditions
Production conditions naturally play a significant role in supply. Poor conditions will result in less output and thus, less supply, whereas productive conditions will result in better output. These conditions are typically determined by resources and labor. If there's a scarcity in labor and resources, production costs will go up and output will decrease, resulting in a supply drop.
Future Expectations
Future expectations of price have a more complex role in aggregate supply. If sellers expect input prices to increase, they will produce less, due to profit margins that'll be narrowing in the future. Contrary, if sellers expect input costs to drop, they will produce more as profit margins stand to grow in the future. This concept is highly relevant to market investors and speculators.
Input Price
Input price influences supply in a more indirect manner. Input costs are the costs involved with producing a certain good. If these costs are high, sellers can produce less, bringing down the supply, and vice versa. As input costs rise, producers also have to produce and sell more goods in order to remain profitable, due to fallen profit margins.
Number of Suppliers
The number of suppliers in a market brings forth the element of competition. More suppliers inherently point to prices that are high. This is counteracted by competition as these suppliers have to contend for market share - a factor that brings prices as well as aggregate supply back down. This decrease in price sees suppliers move out of the market in light of lower profitability.
Government Policy
Government policies have a very broad affect on markets and the supply within these markets. An example is how a government can ban the import of precious metals. This will drive up the production costs relating to cars, and as a consequence, the supply of cars will drop. Subsequently, car prices will rise considering the scarcity and more suppliers will enter the market; supporting the quantity of supply.
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The supply function in economics is the mathematical expression of supply's relation to other factors. It is expressed as a linear equation which is: y = mx + b. Y represents the dependent variable, M indicates the slope of the function, X is the independent variable, and B shows where the function cuts across the y-axis. As X increases (being the price), Y will also increase (as the supply).
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The concepts of supply are all derived from the foundational principles of supply. Herewith follows explanations for a set of supply concepts.
Movement vs Shifts in Supply
There's a very distinct difference between shifts in the supply curve and movements along the supply curve. Shifts in the curve occur when a non-price variable changes. Variables like this include the number of sellers in a market, technology that's used in production, input costs, and the degree of government regulation. Movements along the curve occur when the price of the product itself changes. This can be dependent on factors, such as the number of individuals wanting the product.
The following illustration clearly highlight the distinctions between a shift and a movement:
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Individual vs Market Supply
With both principles founded in supply, the biggest difference between individual and market supply is that individual supply points to the amount of goods a single individual offers. The market supply refers to the aggregate amount of goods offered by the entire market. The following graph depicts the differences:
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Supply and Market Structures
The supply and demand curve in different market structures all comprise of the same elements namely, price, supply, and the upward sloping supply curve. However, the supply curve differs in different market structures depending on the type of good. The curve can be more upright, more curved, flatter, or straighter.
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In economics, supply is the number of products that a producer or seller is willing and capable to provide to buyers. Its law states that supply will surge as price increases, as producers want to maximize profits. Quantity is closely related to the price of an item. The supply curve in economics slopes upwards, suggesting the positive relationship between price and the amount supplied. Factors affecting supply include price of goods, price of related goods, production conditions, future expectations, input costs, number of suppliers, and government policy. The linear equation of supply is: y = mx + b. Concepts derived from the basis of supply are movement vs shift in supply, individual vs market supply, and differing market structures.
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Video Transcript
What Is Supply?
In economics, we have two forces: the producer, who makes things, and the consumer, who buys them. Supply is the producer's willingness and ability to supply a given good at various price points, holding all else constant. An increase in price will increase producers' revenues, so they'll be willing to supply more; a decrease in price will reduce revenues, and so producers will supply less.
Supply's counterpart is demand; it measures how many consumers will want to buy a product at various price points. The direct relationship between price and quantity supplied of a good is known as the Law of Supply and is typically represented by an upward sloping line known as the supply curve.
The Supply Curve
The supply curve shows the quantity supplied of a given product at varying price points, holding all else constant. Here's a graph of the supply curve:
You'll notice that the x-axis is labeled 'Q', and the y-axis is labeled 'P.' Those stand for quantity and price. Just like we saw earlier, when the price of a good goes up, the supply does as well. Each producer has his or her own supply curve for a given product, which can vary from one producer to another. The exact curve depends on production costs and other variables.
Let's look at an example. Imagine two wineries in the Paso Robles region: Paso Winery and Robles Winery. Paso Winery may be willing to supply 20 bottles of their wine if the market price were $10 per bottle, but willing to supply 100 bottles if the price were $50 per bottle. Robles Winery may only be willing to supply 5 bottles if the price were $20 each and 50 bottles at a price of $50 each.
The summation of the two individual supply curves creates a market supply curve, with red wine ranging from $10 a bottle up to $50 a bottle. The two individual supply curves differ because the wineries are willing and able to supply red wine at different prices. This may be due to varying input costs. Those are the costs associated with producing the wine, such as the variety of grape being used, labor costs, or technique of fermenting the grapes.
Quantity Supplied
The quantity supplied is the amount of a good that would be supplied to the market at a given price. In other words, it's the quantity that appears when we check the supply curve at a specific price point. For Paso or Robles wineries, the quantity supplied at a given price is how much wine they'd be willing to make if they knew they could charge that price.
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Here's a chart showing the supply of red wine in the Paso Robles area. For example, point A shows a market price for red wine at $30 a bottle. At this price, winemakers would supply 60 bottles of red wine. If the price were to drop to $10 per bottle, which is marked at point B, then only 20 bottles would be supplied. And at $70/bottle, marked by point C, 140 bottles of red wine would be supplied. The change in quantity supplied of red wine is a result of a change in market price. Moving from point A to B or C is a movement along the supply curve. Only the market price for red wine changed, not the actual supply curve.
Shifts in Supply
Whenever we discussed a change in quantity supplied above, it assumed we were holding all else constant. What happens if the other factors, such as grape availability, are not held constant? It could result in a shift in supply, where the availability of the wine at any price is changed.
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Let's check out the Paso Robles supply curve again. Point A on the curve says that during a typical year, 80 bottles of wine would be supplied with a market price of $40/bottle. Of course, not all years are typical. Wine production depends heavily on climate for the supply of grapes, so changes in climate can affect the supply of wine.
Consider a season where the weather was perfect for grape production and resulted in a record-breaking crop. Rather than just a movement along the supply curve as price changes, the entire shape of the supply curve changes from S to S-prime. Because there are more grapes, winemakers can produce more wine and might even be convinced to make it cheaper so that they can sell more. The new supply curve indicates that at a $40/bottle market price, point C on the chart, wineries could supply 120 bottles of wine.
So what if in the spring, temperatures were well below average, with some nights dropping below freezing? It would severely reduce the grape crop for that harvest season. This is shown by an inward shift of the supply curve, represented by S-double-prime on the chart. The new supply curve is shifted outward from S to S-double-prime.
With fewer grapes available for making wine, there would be less wine at any price. Point B on the graph shows us the suppliers would only be willing and able to produce 40 bottles of red wine at the same $40-per-bottle market price. The change in supply is a result of another factor changing, besides market price.
Lesson Summary
Supply is a producer's willingness and ability to supply the goods they produce. It's often represented by an upward sloping line called the supply curve.
The direct relationship between price and quantity supplied of a good is known as the Law of Supply; the higher the price of a good, the more of that good the producer will be willing and able to manufacture. Changes in price while holding all else constant result in movements along the supply curve and changes the quantity supplied. Holding price constant and changing other factors that influence supply of a given good will cause shifts in supply. These will either move the supply curve out, making more goods available at any price, or shift it in, decreasing availability across the price spectrum.
Key Terms
- supply: the producer's willingness and ability to supply a given good at various price points (holding all else constant)
- demand: the counter point to supply; measures how many consumers will want to buy a product at various price points
- Law of Supply: the direct relationship between price and quantity supplied of a good; represented by an upward sloping line
- supply curve: shows the quantity supplied of a given product at varying price points (holding all else constant); the x-axis is labeled for 'quantity', and the y-axis is labeled for 'price'
- market supply curve: the summation of individual supply curves for a product
- input costs: costs associated with producing
- quantity supplied: the amount of a good that would be supplied to the market at a given price
- shift in supply: the availability of the product at any price is changed due to external factors not held constant
Learning Outcomes
This lesson on supply in economics should help you to:
- Define supply in economics
- Recognize the Law of Supply
- Interpret the supply curve
- Explain how input costs can affect a supply curve
- Discuss quantity supplied and shifts in supply
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