CHAPTER 5

SUPPLY

GENERAL INFORMATION

- def – THE WILLINGNESS AND ABILITY TO OFFER PRODUCTS FOR SALE AT A GIVEN PRICE AT A GIVEN POINT IN TIME

- SUPPLY IS THE MIRROR IMAGE OF DEMAND

- ANYONE WHO OFFERS A RESOURCE FOR SALE IS A SUPPLIER

o LAND, LABOR OR CAPITAL

o A SUPPLIER WILL ATTEMPT TO MAXIMIZE A RESOURCE AT THE MARKETPLACE

LAW OF SUPPLY

- Def - THE AMOUNT SUPPLIED WILL BE DIRECTLY PROPORTIONAL TO THE PRICE THAT CAN BE OBTAINED

- THE SUPPLY CURVE SLOPES UPWARD AND TO THE RIGHT

- FACTORS THAT INFLUENCE THE QUANTITY SUPPLIED

o COST OF IMPUTS (RESOURCES)

o PRODUCTIVITY

§ AS PRODUCTIVITY INCREASES, MORE WILL BE SUPPLIED AND VICE VERSA

§ FACTORS THAT INCREASE PRODUCTIVITY

· INVESTMENTS IN NEW TECHNOLOGY

· INVESTMENTS IN HUMAN CAPITAL

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o TYPE OF MARKET – THIS AFFECTS THE NUMBER OF SELLERS

§ MONOPOLY – PRICE MAKER

§ OLIGOPOLY – A FEW LARGE COMPETITORS

· DANGER OF COLLUSION

o AGREE TO FIX PRICES

o AGREE NOT TO COMPETE

§ MONOPOLISTIC COMPETITION

· COMPETITORS MAINTAIN A LOYAL CLIENTELE AND COMPETE TO ATTRACT ADDITIONAL CUSTOMERS

§ IMPERFECT COMPETITION (PRICE TAKERS)

· EXAMPLE – FARMERS, TRUCKING COMPANIES

o GOVERNMENT INVOLVEMENT

§ TAXES AND REGULATION TEND TO DIMINISH SUPPLY

§ SUBSIDIES TEND TO INCREASE SUPPLY

· Def – GOVERNMENT PAYMENT INTENDED TO

o COMPENSATE FOR A LOSS

o ENCOURAGE A PARTICULAR ACTION

o EXPECTATIONS

§ INDIVIDUALS TRYING TO ANTICIPATE WHAT MIGHT ALTER THE FUTURE

ELASTICITY OF SUPPLY

- CHANGES IN THE QUANTITY SUPPLIED ARE AFFECTED BY THE COST OF RAW MATERIALS

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- DETERMINANTS OF ELASTICITY

o NATURE OF PRODUCTION

§ IF A GREAT DEAL OF CAPITAL EXPENDITURE IS NEEDED TO AFFECT SUPPLY, SUPPLY WILL BE INELASTIC

· EXAMPLE – SHALE OIL, CHANGES ON AN ASSEMBLY LINE

§ IF AN INCREASE IN SUPPLY CAN BE ACHIEVED QUICKLY AND W/O A GREAT DEAL OF CAPITAL INVESTMENT, SUPPLY WILL BE ELASTIC

THEORY OF PRODUCTION

- DEALS WITH THE FACTORS OF PRODUCTION AND THE OUTPUTS OF GOODS AND SERVICES

- THE THEORY OF PRODUCTION

o IS BASED ON THE SHORT RUN

o USUALLY, LABOR IS THE ONLY VARIABLE

- THE LAW OF VARIABLE PROPORTIONS

o DEALS WITH THE RELATIONSHIP BETWEEN INPUT OF PRODUCTIVE RESOURCES AND THE OUTPUT OF FINAL PRODUCTS

o MARGINAL PRODUCT – def – THE EXTRA OUTPUT GENERATED BY ADDING 1 MORE UNIT OF INPUT

§ INCREASING RETURNS

§ DIMINISHING RETURNS

§ NEGATIVE RETURNS

- SUPPLY AND THE ROLE OF COST

o EFFICIENCY IS RELATED TO BOTH PRODUCTIVITY AND COSTS

o EFFICIENT PRODUCTION IS A FUNCTION OF QUALITY AND COSTS OF INPUTS

§ EXAMPLE – CARPET IN A HIGH TRAFFIC AREA

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o FIXED COSTS – OVERHEAD

§ Def – THE COSTS OF DOING BUSINESS EVEN IF THE PLANT IS IDLE

· EXAMPLE – RENT, MORTGAGE, TAXES, SALARIES OF EXECUTIVES

o VARIABLE COSTS

§ Def – COSTS ASSOCIATED WITH LABOR AND RAW MATERIALS

o TOTAL COSTS = FIXED COSTS + VARIABLE COSTS

o MARGINAL COSTS

§ Def – THE ADDITIONAL COST INCURRED WHEN A BUSINESS ADDS 1 MORE UNIT OF PRODUCTION

· EXAMPLE – LABOR – USUALLY A VARIABLE COST

APPLICATION OF COST PRINCIPLE

- IF MOST OF THE COSTS ARE FIXED COSTS, TOTAL OUTPUT COULD BE INCREASED WITH VERY LITTLE ADDITIONAL COST

o EXAMPLE – SELF-SERVICE GAS STATION, MOVIE THEATERS

- REVENUE (INCOME)

o TOTAL REVENUE = NUMBER SOLD x AVERAGE PRICE

o MARGINAL REVENUE

§ Def – THE ADDITIONAL REVENUE GENERATED WITH THE PRODUCTION AND SALE OF 1 ADDITIONAL UNIT OF OUTPUT

o MARGINAL ANALYSIS

§ COMPARES THE EXTRA BENEFITS TO THE EXTRA COSTS OF AN ACTION

§ BREAK EVEN POINT – def – THE TOTAL PRODUCT THAT A BUSINESS NEEDS TO SELL TO COVER TOTAL COSTS

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§ AS LONG AS MARGINAL COST IS LESS THAN MARGINAL REVENUE, A COMPANY WILL CONTINUE TO HIRE WORKERS AND ADD ADDITIONAL RESOURCES

§ WHEN MARGINAL COSTS ARE SMALL, BUSINESSES TEND TO STAY OPEN LONGER – THE OPPOSITE IS LIKEWISE TRUE

§ PROFIT MAXIMIZATION – def – WHEN MARGINAL COST AND MARGINAL REVENUE ARE EQUAL