Unit-3SUPPLY

ANALYSIS

Supply

The Supply of a product refers to the various quantities of the product, which a seller is willing and able to sell at different prices in a given period of time.

To quote Meyers – “We may define supply as a schedule of the amount of a good that would be offered for sale at all possible prices at any one instant of time, or during any one period of time, for example, a day, a week and so on, in which the conditions of supply remain the same.”

”According to Prof. Macconnel– “supply may be defined as a schedule which shows the various amounts of a product which a producer is willing to and able to produce and make available for sale in the market at each specific price in a set of possible prices during some given period.”

Thus, Supply indicates how much of a good producers are willing and able to offer for sale per period at each possible price, other things constant. 2

Supply function:• A supply function is an algebraic expression of the

functional relationship between supply and its determinants. Supply is determined by price of the commodity, price of related commodities, product cost, number of firms or sellers, state of technology etc

Supply function can be shown as follows:• S=f[P, Pr, Pc, N, T] P= Price of the commodities r= Price of related commodities Pc= Production cost [ Factors of production ] N=Number of firms or sellers T= State of technologyThus supply functions shows the determinants of supply

Determinants Of Supply Apart from price, many factors bring about changes in supply.

Among them the important factors are: Cost of production: Variations in cost of production occurs due

to changes in cost of labor, raw materials, capital, technological advancement s, etc.

Availability of other products: The supplier can switch over their production to any of their complementary or substitute product , if their cost of production is less.

Climatic changes: natural factors like good climatic conditions, timely, adequate, well distributed rainfall results in higher production and expansion in supply.

Change in techniques of production : An improvement in techniques of production and use of modern highly sophisticated machines and equipments will go a long way in raising the output and expansion in supply.

Prices of related goods: If prices of related goods fall, the seller of a given commodity offer more units in the market even though, the price of his product has not gone up. Opposite will be the case when the price of related goods rises.

Government policy: When the government follows a positive policy, it encourages production in the private sector. Consequently, supply expands. For example granting of subsidies, development rebates, tax concession, etc,.

Monopoly power: Supply tends to be low, when the market is controlled by monopolists, or a few sellers as in the case of oligopoly. Generally supply would be more under competitive conditions.

Supply Schedule• Supply schedule is a tabular representation of

different quantities of a commodity supplied at varying prices. It represents the functional relationship between quantity supplied and price. It is strictly prepared with reference to the price of a given commodity.

The following imaginary supply schedule shows that as price rises, supply extends and as price falls , supply contracts. Supply schedule is never absolute. It varies with different prices and at different times. 0.75 paisa is the minimum price to be charged per unit because it equals cost of production. No producer would like to charge cost price to customers. Hence, supply is zero at this price. It is called as reserve price.

Market supply Schedule• The total quantity of commodity supplied at

different prices in a market by the whole body of sellers is called as market supply schedule. It refers to the aggregate behavior of the market rather than mere totaling of all individual supply schedules.

• The market supply schedule helps a firm to formulate its sales policy by manipulating the prices. It helps the management to know how much sales can be increased by raising the price without losing the demand for the product.

Supply Curve: The supply curve is a geometrical representation of the supply schedule. The upward slopingcurve clearly indicates that as price rises, quantity supplied expands and viceversa.The supply curve is a graph illustrating how much of a product a firm will supply at different prices.

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The Law of Supply• The law of supply is just the

opposite of the law of demand.

• The law of supply states that “Other things remaining constant, the quantity supplied varies directly with the price i.e. when the price falls, supply will contract and when price rises, supply will extend”.

• This means that supply curves typically have a positive slope.

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• According to S.E.Thomas, “a rise in price tends to increase supply and a fall in price tends to reduce it.” There is a functional relationship between supply and price.

• Mathematically S= F (P). The law of supply is based on a number of assumptions.

The other things which should remain constant for the law to operate are:

1. Number of firms, the scale of production and the speed of production.

2. Availability of other inputs.3. Techniques of production.4. Cost of production.5. Market prices of other related goods.6. Climate and weather conditions.

Special features of law of supply1. There is a direct relationship between price and supply

i.e., higher the prices higher will be the supply and vice versa.

2. Price is an independent variable and supply is a dependent variable.

3. The applicability of the law is conditioned by the phrase “Other things being equal”. Thus the law is not universal in nature.

4. Since the marginal cost of production increases as output increases, producers must receive a higher price for the output in order to be able to increase the quantity supplied

5. The supply curve normally rises from left to right.

Exception to the Law of Supply The Law of Supply does not apply for the following

cases.• 1. Expectations: In this case of expectations or

speculation, the law of supply does not hold good. If the seller expects the price to fall further, he may sell more at the current price which may be low.

• 2. Clearance sale: Sometimes, to clear off the existing stock a seller may sell his product at a lower price.

• 3. Depression: During a period of depression, the law of supply does not apply because of the feeling of pessimism on the part of the businessman and lower purchasing power in the hands of the people.

• 4. Rare Articles: In the case of rare articles like old coins, stamps, painting etc., the law of supply will not hold good because of the supply of these articles cannot be increased.

• 5. When there is an increase in the price of the labour the quantity supplied decreases after a definite level is reached

Changes Or Shifts In Supply• When supply of a product changes only due to a

change in the price of that product alone, it is called as either expansion or contraction in supply. Expansion in supply means, more quantity is supplied at a higher price and contraction in supply means, less quantity is supplied at a lower price.

• This tendency can be represented through a single supply curve. In this case, the seller will be moving either in the upward or downward direction along with the same supply curve.

• It is clear from the following diagram

• In the diagram, we can notice that when price is Rs. 2.00, 20 units are sold and when the price rises to Rs. 4.00, 40 units are sold (extension). On the other hand, when price falls from Rs. 4.00 to Rs. 2.00 quantity supplied also falls from 40 to 20 units. Supply of a product may change due to changes in other factors. If supply changes not because of changes in price, but because of changes in other determinants, then, it will be a case of either increase or decrease in supply.

Increase in Supply: It implies more supply at the same price or same quantity of supply at a lower price. In this case, we have

to draw a new supply curve. In the diagram, Original price = Rs 6.00

Original supply = 10 units Original supply Curve = SS

• Now the seller sells 20 units at the same price of Rs. 6=00.Hence, we get a new point P’. or same quantity of 10 units are sold at a lower price of Rs. 4=00. Hence, we get another new point P”. If we join these two new points P’&P” we get a new supply curve S’S’. There is forward shift in the position of supply curve. Forward shift indicates increase in supply.

• Decrease in supply• It implies that less quantity is supplied at the same price or

same quantity is supplied at a higher price. In this case also, we have to draw a new supply curve.

• In the diagram,• Original price = Rs.4=00• Original supply = 20 units• Original supply Curve = SS

When less quantity of 10 units are supplied at the same price of Rs.4.00, we get a new point P. Similarly, when same quantity of 20 units is supplied at a higher price of Rs.6 00, we get a new point P”. If we join these new points P’ & P” then we get a new supply curve S’S’, which is located to the left of the original supply curve. There is backward shift in the position of supply curve shift in the curve. Backward indicates decrease in supply.

Elasticity of SupplyElasticity of Supply measures the degree of responsiveness

or sensitiveness of supply to change in the price of a commodity. Supply changes due to a change in price of a commodity. The extent of change in supply in accordance with the change in price is called Elasticity of supply.

When a small fall in the price of a commodity leads to a large contraction in supply, supply is comparatively elastic. But when a big fall in price leads to a very small contraction in supply, said to be comparatively inelastic. Conversely, a small rise in price leading to a big extension to supply shows elastic supply and a big rise in price leading to a small extension in supply indicates inelastic supply.

• The concept of elasticity of supply is a relative measure of the responsiveness of quantity supplied of a commodity to a change in its price. The greater the responsiveness of quantity supplied to the change in its price, the greater its elasticity of supply. Elasticity of supply may be defined as a percentage change in the quantity supplied of a product divided by the percentage change in price that caused the change in quantity supplied.

% Change in the quantity supplied of a productEs = _______________________________ % change in its price

δQ/Q δQ P= ______ = ___ x __

δP/P δP QEs= Elasticity of supply of a productQ= Original quantity supplied of the productδQ = Change in the quantity suppliedP = Original price of the productδP = Change in the price• For example, if the price of a refrigerator rises from 20,000

to 21,000 per unit and in response to this rise in price, quantity of it increases from 25,000 units to 30,000 units, the elasticity of supply will be………..

Types of elasticity of supply• 1.Perfectly elastic supply: Supply is said to be

perfectly elastic when a slight change in price leads to immeasurable changes in supply. Hence supply curve would be a horizontal or parallel line to OX axis.

• 2. Perfectly inelastic supply: When supply of a commodity remains constant and does not change whatever may be the change in price, it is said to be absolutely or perfectly inelastic supply. Here the supply curve tends to be a vertical straight line. ES = 00 (zero) .

• 3. Relatively Elastic supply: If change in the supply is more than proportionate to the change in price, elasticity of supply is greater than one. In that case, the supply curve is flatter and is more inclined to x axis.

• 4. Relatively Inelastic supply: If the change in supply is less than proportionate to a given change in price, then, elasticity of supply is said to be less than one. Here the supply is a steeply rising one.

• 5. Unitary elastic supply: If proportionate change in supply is exactly equal and proportionate to the change in price, then elasticity of supply is equal to one.

Factors Determining Elasticity Of Supply• 1. Time period :Time has a greater influence on elasticity of supply

than on demand. Generally supply tends to be inelastic in the short run because time available to organize and adjust supply to demand is insufficient. Supply would be more elastic in the long run.

• 2. Availability and mobility of factors of production: When factors of production are available in plenty and freely mobile from one occupation to another, supply tends to be elastic and vice versa.

• 3. Technological improvements : Modern methods of production expands output and hence supply tends to be elastic. Old methods reduce output and supply tends to be inelastic.

• 4. Cost of production :If cost of production rise rapidly as output expands, then there will not be much incentive to increase output as the extra benefit will be choked off by increase in cost. Hence supply tends to be inelastic and vice versa.

• 5. Kinds and nature of markets : If the seller is selling his product in different markets, supply tends to be elastic in any one of the market because, a fall in the price in one market will induce him to sell in another market. Again, if he is producing several types of goods and can switch over easily from one to another, then each of his products will be elastic in supply.

• 6. Political conditions : Political conditions may disrupt production of a product. In that case, supply tends to become inelastic.

• 7. Behavior pattern of the producers

• 8. Prices of related goods: A firm can charge a higher price for its products, if prices of other products are higher and vice versa.