4 supply theory

Theory of Supply

Supply refers to the quantity of the commodity which the producer is willing to sell at a particular price during a particular time period.

Supply and Stock

Stock of a commodity is the total quantity that is available in the market at a certain time.

Supply is that part of the stock which a seller is ready to sell at a certain price during a certain time. Thus, supply is the part of stock which is actually brought into the market.

Supply and Quantity Supplied

• Supply – it refers to the whole set of quantities of a commodity offered for sale at different levels of prices at a point of time.

• Quantity Supplied – it refers to a particular amount of commodity offered for sale at a particular price at a point of time.

Factors determining Supply & Supply Function

• Sx = f (Px, PZ, NF, T, PF, Ex , GP)

Sx = Supply of commodity X

Px = Price of commodity X

PZ= Price of related goods

NF = Number of Firms

T = Technological changes

PF = Price of factors of production

EX = Expected Future Price

GP = Government Policy

Supply and Prices of Related Goods

• A fall in the price of a related good say Y, leads to a rise in the quantity supplied of good X and vice versa.

Supply and Number of Firms

• Increase in the number of firms in the market implies increase in supply and vice versa.

Supply and Technological Change

• Improvement in the technique of production reduces cost of production. This leads to increase in profit and hence an increase in supply.

Supply and Price of Factors of Production

• If the factor price reduces, cost of production also reduces and supply increases and vice versa.

Supply and Expected Future Price

• If the producer expects the price of the commodity to increase in near future, current supply of the commodity would reduce and vice versa.

Supply and Government Policy

• Increase in Taxation tends to reduce the supply while increase in Subsidy tends to induce greater supply of the commodity.

Law of Supply

There is a direct relationship between the price of a commodity and the quantity supplied of that commodity.

Sx = f (Px), ceteris peribuswhere,

Sx = quantity supplied of good X

Px = price of the good X

Price

Quantity

Assumptions of Law of Supply

* Price of related goods is constant

* Number of firms is constant.

* Technology remain unchanged.

* Price of factors of production remains

same.

* There is no change in the goal of the firm.

* Expected future price remains unchanged.

* Government policy is constant

Exceptions to the Law of Supply

• It does not apply strictly to agricultural products whose supply is governed by natural factors. Due to natural calamities the supply of wheat will not increase however high its price may soar.

• Goods of social distinction will remain limited even if their price may rise.

• Sellers may be willing to sell more units of perishable goods although their price may be falling.

Supply Schedule and Supply Curve

Supply Schedule : It’s a tabular representation showing the different quantities of a good that the producers are willing to sell at different levels of prices during a given period of time.

Price

($ per Kg)

Quantity

Supplied of Good X

Ref

Pt

1 10 A

2 20 B

3 30 C

4 40 D

Supply Curve

The graphical representation of the supply schedule is supply curve.

Individual Supply and Market Supply

• Individual Supply :-

It means quantity supplied of a good by

an individual producer at various prices

per time period.

• Market Supply :-

It is the aggregate of the quantities

supplied by all producers in the market

at different prices per time period.

Deriving a Market Supply Schedule

Deriving a Market Supply Curve

RECAP - Factors determining Supply & Supply Function

• Sx = f (Px, PZ, NF, T, PF, Ex , GP)

Sx = Supply of commodity X

Px = Price of commodity X

PZ= Price of related goods

NF = Number of Firms

T = Technological changes

PF = Price of factors of production

EX = Expected Future Price

GP = Government Policy

Supply and Prices of Related GoodsPrice price

S S1

S1 S

O O Quantity supplied Quantity supplied

(a) Fall in the price of substitute (b) Rise in the price of substitute

Supply and TechnologyPrice price

S1 S

S S1

O O

Quantity supplied Quantity supplied

with an unfavourable with an advancement

change in technology in technology

Supply and Price of Factors of ProductionPrice price

S1 S

S S1

O O

Quantity supplied Quantity supplied

with higher cost with lower cost

of production of production

Supply and Government PolicyPrice price

S1 S

S S1

O O

Quantity supplied Quantity supplied

with an increase in with an increase in

excise tax subsidy

Change in Quantity Supplied (movement) vs. Change in Supply (shift)

• Change in Quantity Supplied / Movement along the supply curve

It is caused by the change in the price of good other things remaining constant.

* Expansion of Supply : It refers to rise in

supply due to the fall in price of the good.

* Contraction of Supply : It refers to fall in

supply due to the rise in price of the good.

Contd.

Expansion of Supply Contraction of Supply

Price Price

S S

P1 P

P P1

O O

Q Q1 Q1 Q

Quantity Supplied Quantity Supplied

Contd.• Shift / Increase or Decrease in Supply

It is caused by changes in factors other than price of the good like price of substitute goods; change in technology; Change in cost of production; change in government policy etc.

Increase in SupplyIt refers to more supply at a given price. It is indicated by the rightward shift in the supply curve. It is due to

- decrease in the price of related

goods

- advanced technological change

- increase in the number of firms

- lower price of factors of production

- Expectation of fall in price in near future

- higher subsidies to the firms

Decrease in SupplyIt refers to less supply at a given price. It is indicated by the leftward shift in the supply curve. It is due to

- increase in the price of related goods- Use of obsolete technology- decrease in the number of firms- higher price of factors of production- Expectation of rise in price in near future- higher taxes to the firms

Increase in Supply

Price S S1

P

O Q1 Q Qx

Quantity Supplied

Increase in supply

Decrease in Supply Price

S1 S

P

O Q Q1 Qx

Quantity Supplied

Decrease in supply

Time Factor and Supply

• Very Short Time Period/ Market Period : The time period when production cannot be changed.

Price S

O Quantity Supplied

Time Factor and Supply – contd.

• Short Time Period : The time period when production can be increased through greater application of variable FOP.

Price S

O Quantity Supplied

Time Factor and Supply – contd.

• Long Time Period : The time period when production can be increased through greater application of all FOP + technological advancement.

Price S

O Quantity Supplied

Difference in the Causes of Shift in the Supply Curve

Increase in Supply (Upward or Rightward shift in Supply)

Decrease in Supply (Downward or Leftward shift in Supply)

1. Improvement in technology of production.

1. Technique of production being obsolete.

2. Fall in the price of related goods. 2. Rise in the price of related goods.

3. Fall in price of factors of production.

3. Rise in price of factors of production.

4. Fall in excise tax. 4. Rise in excise tax.

5. Higher subsidy. 5. Lower or no subsidy.

6. Increase on number of firms. 6. Decrease on number of firms.

7. Expectation of fall in price in near future.

7. Expectation of rise in price in near future.

Difference between Increase in Supply and Expansion of Supply

Increase in Supply Expansion of Supply

•It refers to shift in supply curve.

•There is a rightward shift in the supply curve.•It is due to:-

- decrease in the price of related goods

- advanced technological change

- increase in the number of firms

- lower price of factors of production

- Expectation of fall in price in near future

- higher subsidies to the firms

•It refers to movement along a supply curve.•The producers move to the right on the same supply curve.•It is due to the rise in the price of the commodity.

Contd.

Increase in Supply Expansion of Supply•It is defined as a rise in supply at the same price of a commodity.•Graphical presentation:-Price

S S1

P

O Q Q1

Quantity

•Numerical example:-

Px Qx

5 90

5 100

•It is defined as rise in supply due to rise in price of the commodity.• Graphical Presentation :-Price

P1 S

P

O Q Q1

Quantity

•Numerical Example :-

Px Qx

5 90

6 100

Difference between Decrease in Supply and Contraction of Supply

Decrease in Supply Contraction of Supply•It refers to shift in supply curve.

•There is a leftward shift in the supply curve.•It is due to:-

- increase in the price of related goods

- Use of obsolete technology

- decrease in the number of firms

- higher price of factors of production

- Expectation of rise in price in near future

- higher taxes to the firms

•It refers to movement along a supply curve.•The producers move to the left on the same supply curve.•It is due to the fall in the price of the commodity.

Contd.

Decrease in Supply Contraction of Supply•It is defined as a fall in supply at the same price of a commodity.•Graphical presentation:-Price

S1 S

P

O Q1 Q

Quantity

•Numerical example:-

Px Qx

5 90

5 80

•It is defined as fall in supply due to fall in price of the commodity.• Graphical Presentation :-Price

P S

P1

O Q1 Q

Quantity

•Numerical Example :-

Px Qx

5 90

3 80