Business Economics

Chapter 3 - Supply Analysis

• Explain the concept of supply
• List the determinants of supply
• State the law of supply
• Explain the shift and movement along supply curve
• Discuss the concept of market equilibrium
 Concept of Supply

• In economics, supply refers to the quantity of a product available in the market for
sale at a specified price and time. In other words, supply can be defined as the
willingness of a seller to sell the specified quantity of a product within a particular
price and time period.
• Supply is always referred in terms of price. The price at which quantities are
supplied.
• Supply is referred in terms of time. This means that supply is the amount that
suppliers are willing to offer during a specific period of time (per day, per week, per
month, bi-annually, etc.)
 Important Aspects of Supply

• ‰‰‰‰Supply considers the stock and market price of the product. The stock of a
product refers to the quantity of the product available in the market for sale within
a specified point of time.

• If the market price of a product is more than its cost price, the seller would
increase the supply of the product in the market. However, a decrease in the
market price as compared to the cost price would reduce the supply of product in
the market.
 Important Aspects of Supply

• Supply can be classified into two categories, which are individual supply
and market supply.
• Individual supply is the quantity of goods a single producer is willing
to supply at a particular price and time in the market. In economics, a
single producer is known as a firm.
• On the other hand, market supply is the quantity of goods supplied by all
firms in the market during a specific time period and at a particular price.
Market supply is also known as industry supply as firms collectively
constitute an industry.
 Determinants of Supply
Price of a Product

Cost of Production

Natural Conditions

Transportation Conditions

Taxation Policies

Production Techniques

Factor Prices and their Availability

Price of Related Goods

Industry Structure
 Determinants of Supply

• Price of a product: An increase in the price of a product increases its

supply and vice versa while other factors remain the same.
• ‰Cost of production-Cost of production and supply are inversely
proportional to each other. This implies that suppliers do not supply
products in the market when the cost of manufacturing is more than their
market price.
• Natural conditions: The supply of certain products is directly influenced
by climatic conditions. For instance, the supply of agricultural products
increases when the monsoon comes well on time.
• Transportation conditions: Better transport facilities result in an
increase in the supply of goods.
• Taxation policies: Government’s tax policies also act as a regulating
force in supply. If the rates of taxes levied on goods are high, the supply
will decrease
 Determinants of Supply

• Production techniques: The supply of goods also depends on the type of

techniques used for production. Obsolete techniques result in low
production, which further decreases the supply of goods.
• Factor prices and their availability:  The production of goods is
dependent on the factors of production, such as raw material, machines
and equipment, and labour.
• Price of related goods: The prices of substitutes and complementary
goods also influence the supply of a product to a large extent. For example,
a firm producing both ball pens and ink pens. If the price of ball pens
increases then the firm would produce more ball pens and less ink pens.

• Industry structure: The supply of goods is also dependent on the

structure of the industry in which a firm is operating. If there is monopoly in
the industry, the manufacturer may restrict the supply of his/her goods
with an aim to raise the prices of goods and increase profits. On the other
hand, in case of a perfectly competitive market structure, there would be a
large of number of sellers in the market. Consequently, the supply of a
Price of Goods
Cost of Production
Natural Conditions
Technological Factor :
 Production Technique
Obsolete Technique – Low production –Decrease supply of Goods

Good Technique – High Production- Increase Supply of Goods

 Let’s Think !!
• Company ABC is a leading producer of cereals, including wheat, rice, oats, and
barley. Over the last year, the company focuses mainly on the production of rice
and oats because their price is high, therefore increasing the profitability of the
company. What should the company do if the price of wheat increases?
 Quiz

The relation between the quantity of supply and price is _____ proportional
A. Directly
B. Indirectly
C. Not related
D. None of the above

Answer . The correct answer is A. With the rise in the price of goods, the supply by
the firm will also increase. So the relation between price and supply is direct and
positive
 Law of Supply

• Law of supply expresses a relationship between the supply and price of a product. It
states a direct relationship between the price of a product and its supply, while other
factors are kept constant.

• For example, in case the price of a product increases, sellers would prefer to increase
the production of the product to earn high profits, which would automatically lead to
increase in supply.

• Similarly, if the price of the product decreases, the supplier would decrease the supply
of the product in market as he/she would wait for rise in the price of the product in
future.
 Supply Schedule

Supply Schedule

Individual Supply Schedule Market Supply Schedule

 Individual Supply Schedule and Individual
Supply Curve
• This schedule represents the quantities of a product supplied by an individual firm
or supplier at different prices during a specific period of time, assuming other
factors remains unchanged .
 Market Supply Schedule
• This Schedule represents the quantities of a product supplied by all firms or
suppliers in the market at different prices during specific period of time, while
other factors are constant

Price of Product Quantity Quantity Market Supply

A Supplied by Supplied by (1000 kg per
(Rs per kg) Firm X (1000 kg Firm Y (1000 kg week)
per week) per week)
5 3 7 10

10 8 12 20

15 12 15 27

20 15 17 32
Market Supply Curve
 Assumptions in Law of Supply

• ‰Income of buyers and sellers remains unchanged.

• ‰‰The commodity is measurable and available in small units.
• ‰‰The tastes and preferences of buyers remain unchanged.
• ‰‰The cost of all factors of production does not change over a period
mode time.
• ‰‰The time period under consideration is short.
• ‰‰The technology used remains constant.
• ‰‰The producer is rational.
• ‰‰Natural factors remain stable.
• ‰‰Expectations of producers and the government policy do not change
over a period of time.
Exceptions to Law of Supply

Agricultural products

Goods for auction

Expectation of change in
prices in the future

Supply of labour
 Quiz
Question: A seller may be willing to sell out of fashion goods at

• Low prices
• More profits
• High prices
• None of the above

Ans.
Low prices
The seller may sell out of fashion goods at low prices in order to clear the stock
of these goods and realize the amount stuck in inventory.
 Movement Along Supply Curve

Expansion and Contraction of Supply ( Movement)

When there are large quantities of a good supplied at higher prices, it is known
as Expansion or extension of supply. On the other hand ,contraction of
supply occurs when smaller quantities of goods are supplied even at reduced
price
 Shift in Supply Curve

Increase and Decrease in Supply (Shifts)

An Increase in supply take place when a supplier is willing to offer large
quantities of products in the market at the same price due to various reasons.
On the other hand, a decrease in supply occurs when a supplier is willing to
offer small quantities of products in the market at the same price due to
increase in taxes, low agricultural production etc.
 Quiz

1. When there are large quantities of a good supplied at higher prices, it is

known as expansion or extension of supply.(True/False)

2. If a price of a normal commodity increases and other things are equal,

then the supply of the commodity will increase. (True/False)
3. ____________is the market price at which market demand of a product is
equal to its market supply.
 Quiz – Answers
1. When there are large quantities of a good supplied at higher
prices, it is known as expansion or extension of supply.
(True/False)

2. If a price of a normal commodity increases and other things are

equal, then the supply of the commodity will increase.
(True/False)
3. Equilibrium is the market price at which market demand of a
product is equal to its market supply.
28
 Market Equilibrium: Demand and Supply
Equilibrium

In economics, an equilibrium is a situation in which:

 quantity demanded equals quantity supplied.
 refers to a condition where a market price is established through
competition such that the amount of goods or services sought by buyers is
equal to the amount of goods or services produced by sellers.

Qd (P) = Qs (P),

Qd (P) is the quantity demanded at price P

Qs (P) is the quantity supplied at price P

.
 Curve of Equilibrium

PRICE QUANTITY QUANTITY

DEMANDED SUPPLIED

5 10 50
4 20 40
3 30 30
2 40 20
1 50 10
 Shifts in Market Equilibrium

Shift in Market Equilibrium

A shift in supply or demand curve also shifts the equilibrium point
Shift in Demand Curve :In figure ,the initial equilibrium price is observed at PQ and
Quantity OQ. When the demand curve is shifted from the initial demand curve DD to
D1D1,there is a shift in the equilibrium from PQ to MN. Thus, the new equilibrium
price is at MN and the quantity is at ON. However, supply remains the same in this
case.
 Shifts in Market Equilibrium

Shift in supply curve

The initial equilibrium price

is placed at PQ and quantity

at OQ. As the supply curve

shifts from SS to S1S1,

the equilibrium point also
shifts from PQ to MN.

After the shift, the new equilibrium

price is at MN and the quantity is at ON.

When the supply curve shifts, an increase in quantity leads to a decrease in

the equilibrium price.
 Shifts in Market Equilibrium

Case Shift Price Quantity

1 Supply, left

2 Supply, right

3 Demand, left

4 Demand, right
 Shifts in Market Equilibrium

Case Shift Price Quantity

1 Supply, left Increase Decrease

2 Supply, right Decrease Increase

3 Demand, left Decrease Decrease

4 Demand, right Increase Increase

Complex Cases Of Shift in Equilibrium
Simultaneous Shift in demand and Supply Curves may take place
• If shift in supply is more than the shift in demand ,equilibrium price falls
• If shift in demand is more than the shift in supply, the price increases
Equilibrium Position – When Shift in
Supply is more than Demand
Equilibrium Position – When Shift in
demand is more than supply
 Quiz

Determine the market equilibrium price.

D = 10p + 8
S = 12p – 5
 Quiz

• Determine the market equilibrium price.

D = 10p + 8
S = 12p – 5

At equilibrium,D=S
10p+8=12p-5
P=Rs 6.50
 Lets Sum Up

• Supply refers to the willingness of a seller to offer a particular quantity of a

product in the market for sale at a specified price and time.
• Law of supply is often represented by supply schedule and supply curve.
• The law of supply fails under certain cases such as agricultural products,
expectation of change in price in the future, and labour supply.
• Change in quantity supplied occurs as a result of rise or fall in product
prices while other factors are constant. It is also expressed in terms of
expansion or contraction of demand, while
• Change in supply can be defined as increase or decrease in the supply of a
product due to various determinants and is expressed in terms of increase
or decrease in demand.