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Define price elasticity of supply
Measures the extent to which the supply of a good changes in response to a change in the price of that good
Formula for price elasticity of supply
% change in quantity supplied / % change in price
Elastic supply diagram
page 60
Inelastic supply diagram
page 60
What are the factors that determine price elasticity of supply?
- The length of the production period
- The availability of spare capacity
- The ease of accumulating stocks
- The ease of switching between alternative methods of production
- The number of firms in the market and the ease of entering the market
- Time
How does the length of the production period determine PES?
If firms can convert raw materials into finished goods very quickly, supply will tend to be more elastic than when several months are involved in production, as with many agricultural goods.
How does that availability of spare capacity determine PES?
When a firm possesses spare capacity, and if labour and raw materials are readily available, production can generally be increased quickly in the short run
How does the ease of switching between alternative methods of production determine PES?
When firms can quickly alter the way they produce goods - for example, by switching between the use of capital and labour - supply tends to be more elastic than where there is little or no choice. In a similar way, if firms produce a range of products and can switch raw materials, labour or machines from one type of production to another, the supply of any one product tends to be elastic.
How does the number of firms in the market and the ease of entering determine PES?
Generally, the more firms there are in the market, and the greater the ease with which a firm can enter of leave, the greater the elasticity of supply.
How does time effect the market period supply?
(page 61) The Market period supply curve S1 is shown by a vertical line. S1 depicts the situation facing firms following a sudden and unexpected rightward shift of demand from D1 to D2. When surprised by a sudden increase in demand, firms cannot immediately increase output. In the market period, supply is completely inelastic and the price rises from P1 to P2 to eliminate the excess demand brought about by a rightward shift in the demand curve.
How does time effect the short run supply?
The higher price means that higher profits can be made, creating the incentive for firms to increase output. In the short run, firms increase output by hiring more variable factors of production such as labour. The short run increase in output is shown by the movement up the short run supply curve S2. The short run supply curve is more elastic than the market period supply curve S1. In the short run, supply increases to Q2 and the price falls from P2 to P3.
How does time effect the long run supply?
If firms believe the increase in demand will be long lasting and not just a temporary phenomenon, they may increase the scale of production by employing more capital and other factors of production that are fixed in the short run, but variable in the long run. When this happens, firms move along the long run supply curve S3. Output rises to Q3 and the price falls once again, in this case to P4.
In a competitive industry with low or non existent barriers to entry, elasticity of supply is greater in the long run than in the short run, because in the long run firms can enter or leave the market. Short run supply is less elastic because supply is restricted to firms already in the industry.
