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Supply

Supply



Basic definitions relating to supply:


Start with the law of supply.

The law of supply:



The quantity of a specific good or service that producers are willing and able to offer for sale increases as the price increases, and decreases as the price decreases, as long as the price is the only thing that changes.



You may see the law of supply defined using slightly different words, but the meaning is the same. Implied in the definition is a specific time frame. The word "quantity" does not have much relevance unless a specific time frame is involved. However, just knowing that a time frame is involved, and not having to know what the specific time frame happens to be will be sufficient for most kinds of analysis. So the time frame remains implied, and not repeatedly stated during the analysis. Also, it is important to note before moving on, the fact that this definition states that price and quantity supplied move in the same direction: when one increases, the other also increases. When one decreases, the other also decreases. This is called a positive correlation.

The law of supply requires an understanding of the definitions of two more terms: supply, and the quantity supplied:

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Supply: The amount of a specific good or service that producers are willing and able to offer for sale at every possible price.

Quantity supplied: The amount of a specific good or service that producers are willing and able to offer for sale at one specific price.

These two definitions (supply, quantity supplied) form a distinction that is very important in the study of economics. This distinction also happens to be one that many students have trouble understanding. For this reason, I have included a more detailed description of this distinction below.

But first, a few more definitions of terms that are relevant to supply:

Factors of supply: Factors of supply are the price of the good in question, plus other things that determine the level of supply. You will find that an analysis of supply will require the price to be considered separately from the other things that determine supply. The “other things that determine supply” are called determinants of supply.

Determinants of supply: The prices of resources, technology and productivity, expectations of producers, the number of suppliers, and the prices of alternative goods and services that the firm can produce. A more detailed definition of each determinant of supply follows:

Prices of resources: The prices of resources, or inputs, are a cost of production. If production costs increase, producers will offer a lower quantity of goods and services for sale at every price; if production costs decrease, producers will offer a higher quantity of goods and services for sale at every price. A negative correlation exists between the prices of resources and the quantity supplied. This is because higher costs will lower the profits available at each price. Firms will be able to cover their costs and earn an acceptable profit only by lowering their output.

Technology and productivity: If resources are used more efficiently, the costs of production decrease.

Expectations of producers: If producers expect a future change in any of the determinants of supply, it may cause them to change the current supply in order to lock in profits.

Number of suppliers: If more firms produce a good or service, the supply of that good or service will increase.

Prices of alternative goods and services that the firm could produce: If the opportunity cost of a firm changes, it would change the profitability of a given quantity of a specific good or service that the firm supplies.

More definitions:

Supply Schedule: A list of prices and their corresponding quantities offered for sale.

Supply curve: A graph of the supply schedule. Often a curve turns out to be a straight line, but in economics it is still referred to as a curve. By tradition, the supply curve is a graph with an origin of (0,0), quantity on the horizontal (X) axis, and price on the vertical (Y) axis. The supply curve slopes upward because of the positive correlation in the law of supply. Suppliers will by willing to offer a higher quantity for sale only if they can receive a higher price in order to cover increasing costs.

Market supply curve: The sum of all individual producers' supply curves.

Finally, a couple more definitions, along with the promised additional explanation of the distinction between supply and quantity supplied:

Change in supply: When one of the determinants of supply changes, then supply changes. The entire supply schedule changes; the supply curve shifts. This means that the quantities supplied at every price change. This is shown by a shift in the supply curve. If supply increases, then supply curve shifts right (or down, depending on what terminology you use). If supply decreases, the supply curve shifts left (or up).

Change in the quantity supplied: If the price of the good or service in question (the good or service that is used to plot the demand curve) is the only thing that changes, then supply does not change. The supply curve does not change, but the price / quantity combination moves to a different point on the existing supply curve.




As stated above, many students have difficulty grasping the distinction between supply and quantity supplied. The first thing to do in trying to understand this is to look at the difference in the definitions of the two terms. Supply refers to every possible price; quantity supplied refers to a specific price. If the price changes, that change is already covered by supply; supply includes all prices. So a change in price will not change supply, and it will not shift the supply curve. It will only involve a movement along an existing supply curve. That would be called a change in the quantity supplied.

In order for supply to change, and for the supply curve to shift, there must be a change in a non-price factor of supply (one of the determinants of supply). In that case, the quantity supplied will change at every price, and the supply curve will shift as a result.

This analysis of supply & demand continues with a discussion of supply & demand equilibrium.