Chapter 3: The Law of Supply

Marginal Cost

The additional opportunity cost of alternative uses of your time

• All opportunity costs are marginal costs, and all marginal costs are opportunity costs

Similarities of Demand and Supply Choices

Demander: there are always substitutes available - willingness to pay depends on available substitutes

Supplier: there are always alternative uses of your time - willingness to supply hours depends on those alternatives and changes with circumstances

Differences of Demand and Supply Choices

Demander: Marginal Benefit - the maximum you are willing to pay, decreases as you buy more

Supplier: Marginal Cost - the maximum you need to be paid, increases as you supply more

Sunk Costs

Past, already-paid expenses that cannot be recovered

• Not opportunity costs

Supply

The overall willingness of businesses/individuals to sell a particular product or service, because the price covers all opportunity costs of production

Quantity Supplied

The quantity you actually plan to supply at a given price, taking into account everything that affects your willingness to supply work hours

Marginal Opportunity Cost/Marginal Cost

• The complete term for any cost relevant to a smart decision

• Increasing marginal costs arise because inputs are NOT equally productive in all activities

• Marginal costs are constant when inputs ARE equally productive in all activities.

Market Supply

The sum of the supplies of all businesses willing to produce a particular product or service

Law of Supply

The positive relationship between price and quantity supplied

Ex. If the price of a product or service rises, the quantity supplied increases

Supply Curve

Shows the relationship between the price and quantity supplied when all other influences on supply besides price do not change

• Upward sloping, left to right

• If the price of a product or service changes, that affects quantity supplied - Represented graphically by moving along an unchanged supply curve

Reading the supply curve as a supply curve

over and down

• At any price, businesses will supply a larger quantity

Reading the supply curve as a marginal cost curve

up and over

• At any quantity supplied, businesses will accept a lower price because their marginal opportunity costs of production are lower

6 ways to change supply and shift the supply curve

1. Technology

2. Prices of related products or services produced

3. Prices of inputs

4. Expected future prices

5. Number of businesses

6. Environment

1. Technology

• For any quantity supplied, after the new technology, the minimum price businesses are willing to accept falls because marginal costs are lower.

Increase in supply: an increase in business’ willingness to supply at a price

• Represented on the graph by a rightward shift of the supply curve OR reading the supply curve as a marginal cost (up and over)

2. Prices of Related Products or Services Produced

• A change in the price of related products or services supplied leads a business to reconsider its most profitable choices.

Decrease in supply: a decrease in business’ willingness to produce

• Represented on the graph by a leftward shift of the supply curve

3. Prices of Inputs

• Lower input prices increase market supply and shift the supply curve rightward.

• Higher input prices decrease market supply and shift the supply curve leftward.

4. Expected Future Prices

• When future prices are expected to fall, supply increases in the present and the supply curve shifts rightward.

• When future prices are expected to rise, supply decreases in the present and the supply curve shifts leftward.

5. Number of Businesses

• An increase in the number of businesses increases market supply, and shifts the supply curve rightward. 

• A decrease in the number of businesses decreases market supply, and shifts the supply curve leftward.

6. Environment

• Extreme weather—droughts, storms, tornadoes, earthquakes—can have a powerful effect on supply.

• Environmental events, increasingly caused by global warming, can reduce or destroy wheat crops, decreasing market supply and shifting the supply curve for wheat leftward. 

• Good weather conditions produce bumper crops, increasing wheat supply and shifting the market supply curve for wheat rightward.