Price elasticity of supply

PES measures the relationship between change in quantity and change in price

• If supply is elastic, producers can increase their output without a rise in cost or time delay

• If supply is inelastic firms find it hard to change their production in a given time period

• The formula for price elasticity of supply is % change in quantitiy supplied over the % change in price

  1. PES > 1 (Elastic Supply)

  • Definition: Supply is highly responsive to price changes. A small change in price leads to a more than proportional change in quantity supplied.

  • Explanation: Producers can quickly adjust production levels, often due to abundant resources or flexible production processes.

  • Example: Manufactured goods like electronics (factories can ramp up production quickly).

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  2. PES < 1 (Inelastic Supply)

  • Definition: Supply is less responsive to price changes. A change in price leads to a less than proportional change in quantity supplied.

  • Explanation: Limited resources or time constraints prevent producers from adjusting output easily.

  • Example: Agricultural products (it takes time to grow crops).

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  3. PES = 0 (Perfectly Inelastic Supply)

  • Definition: Supply does not change regardless of price changes.

  • Explanation: The quantity supplied is fixed, and producers cannot alter supply in the short term.

  • Example: Unique goods like famous artwork or rare antiques.

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  4. PES = Infinity (Perfectly Elastic Supply)

  • Definition: Supply is infinitely responsive to price changes. Producers can supply an unlimited quantity at a specific price but none at lower prices.

  • Explanation: Typically occurs in perfectly competitive markets where firms are price takers.

  • Example: Standardized goods in competitive markets (e.g., wheat in a perfectly competitive scenario).

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  Factors affecting price elasticity of supply

1. Spare Production Capacity

   • More capacity → Elastic supply (easy to increase production).

   • Less capacity → Inelastic supply (hard to increase output).

   • Example: A factory at 50% capacity adjusts faster than one at full capacity.

2. Stocks of Finished Goods and Components

   • Large stocks → Elastic supply (can supply immediately).

   • Small stocks → Inelastic supply (needs time to produce more).

   • Example: A company with high inventory can respond faster.

3. Ease and Cost of Factor Substitution

   • Easy and cheap substitution → Elastic supply (can switch production easily).

   • Hard and expensive substitution → Inelastic supply (switching is difficult).

   • Example: A bakery can switch products faster than a steel factory.

4. Time Period

   • Short-term → Inelastic supply (limited time to adjust).

   • Long-term → Elastic supply (enough time to increase production).

   • Example: Farmers need a season to grow more crops.

5. Production Period

   • Short production time → Elastic supply (output increases quickly).

   • Long production time → Inelastic supply (slow to adjust).

   • Example: Factories adjust faster than farms.