<2.2 SUPPLY>

--THE LAW OF SUPPLY--

--THE SUPPLY CURVE--

--WHY MC RISES? (HL)--

--SUPPLY CURVE = MC (HL)--

--INDIVIDUAL & MARKET SUPPLY--

--NON-PRICE DETERMINANTS--

--MOVEMENTS & SHIFTS--

"If I asked 100 entrepreneurs or business owners if they wanted to produce apartments in Hong Kong, they would probably all say yes!"

"...so should consumers prepare themselves for an increase in the supply of new houses, should the factors of production get ready to be employed?"

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"Not so fast!!!, Willingness to supply is clearly not enough. Unless the producers can back that willingness with purchasing power, then the phone companies has no reason to order more raw materials, hire more staff, etc. Willingness backed by the ability to pay is called EFFECTIVE SUPPLY in that it directly affects the allocation of scarce productive resources."

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"So what exactly is 'supply'?

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--DEFINITION--

"SUPPLY indicates the various quantities of a product that FIRMS are WILLING & ABLE TO PROVIDE at different prices during a particular time period, ceteris paribus."

--THE LAW OF SUPPLY--

"Let's start with a HUGELY IMPORTANT ASSUMPTION: that Apple faces increasing production costs for each iPhone Duo it makes, say in increments of a single dollar each time (in other words, the 'additional'/'marginal cost of each successive unit is always +one dollar more, $1 on the 1st unit, $2 on the 2nd unit and so on...), assuming they wish to maximise profits, what quantity would they produce if they knew they could sell all units at $1999?"

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"That's right, they would sell up to the quantity where the price = marginal cost (P=MC), as on that final unit they would break even, making $0 profit. This will of course occur at the 1999th unit."

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"Not sure? Then take a look at the diagram below. 'Press animate' and look at the yellow area, then the red. What can you conclude about why the firm is willing to supply up to the 1999th unit?"

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"You can see as the marginal cost rises by $1 each time from $1 on the 1st unit, $2 on the 2nd unit and so on, as long as Price > MC, a profit (the yellow area) is made on that unit and the producer is willing to supply it.

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"We can see a profit is made on each unit up to the 1999th unit (yellow area), where the P=MC ($1999 = $1999); any more output would see losses (red area);...

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"...hence, at a selling price of $1999, the firm is 'willing to supply a quantity of 1999 units."

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"So what would need to happen to the price for them to be willing to produce the 1999th unit, or indeed the 2000th unit?"

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"That's right, the price would need to rise to cover the loss on that extra unit. In other words, as price rises the profit maximising firm is willing to supply a higher quantity."

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"This sounds like a law to me🤔"

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This DIRECT relationship is called 'THE LAW OF SUPPLY', which states that there is a POSITIVE RELATIONSHIP between price (P) and quantity (Q) of a good supplied: "THE HIGHER (LOWER) THE PRICE, THE HIGHER (LOWER) THE QUANTITY SUPPLIED, CETERIS PARIBUS..."

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--THE SUPPLY CURVE--

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"Now if we plot this positive relationship with the price of the good on the Y-axis and quantity on the X-axis, we 'derive' the SUPPLY CURVE.

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"A CONTRACTION IN SUPPLY is a DECREASE IN THE QUANTITY of a good or service that producers are willing to SUPPLY due to a FALL IN THE PRICE."

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"An EXTENSION IN SUPPLY is an INCREASE IN THE QUANTITY of a good or service that producers are willing to SUPPLY due to a RISE IN THE PRICE."

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--TASK--

"Sketch a supply curve illustrating a price change, and explain what happens in terms of the 'price', 'law of supply', 'contraction' or 'extension', etc." (4 marks)

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"You can use this diagram to help you."

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--WHY MC RISES? (HL)--

"The true CAUSE!"

"You may think that rising costs are the reason/cause behind the upward-sloping supply curve, but they are themselves the result of another concept called

'DIMINISHING MARGINAL RETURNS'."

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"Let's start by looking at this depiction of the well-known phrase 'too many cooks spoil the broth'. Can you identify the reason why the food spoilt?" "What does it have to do with fixed and variable factors of production?"

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"That's right; too many variable factors, the chefs (labour), have been added to a fixed factor, namely the kitchen space (land/capital) and ended up gradually ruining the quantity and quality of the food produced."

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"If we apply this scenario to a business that wants to increase output, you should realise that the majority of businesses CAN NOT SIMPLY INCREASE THE QUANTITY OF ALL FACTORS OF PRODUCTION IMMEDIATELY', they NEED TIME and whilst some can be added quickly (often labour resources), others take time (most notably working space), and this period of time is called the SHORT-RUN."

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"Why is this significant?"

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**IMPORTANT**

"Well, as ALL SUPPLY CURVES are drawn under the assumption that at least one factor of production is FIXED and cannot be added too relatively quickly, they will all eventually experience 'DIMINISHING MARGINAL RETURNS', which was exactly what the cooks in the above picture were experiencing."

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THE LAW OF DIMINISHING MARGINAL RETURNS states that in the SHORT RUN, as more and more of a VARIABLE INPUT is added to FIXED INPUTS, the MARGINAL PRODUCT of the variable input, INITIALLY INCREASES (due to specialisation and/or division of labour etc), but will EVENTUALLY DIMINISH (FALL).

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--FUN TASK TIME--

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--BIG TASK--

"Let's now use the chef's example and imagine that workers are added to a fixed-sized fast-food kitchen, use the slider to add workers and summarise the impact they have on output, and be sure to include terms such as 'fixed', 'variable', 'short-run', and of course 'diminishing marginal product'."

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--TASK--

"Now (roughly) plot the MP and the TP, with workers on the x-axis and output on the y-axis, and label the point where diminishing returns sets in."

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"It should look something like this", "We can see that diminishing returns sets in when worker 6 is employed."

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"Great, so we have established that in the short run marginal product will initially rise but eventually fall, creating an n-shaped MP curve, so how is this the CAUSE of rising marginal/average costs?"

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"Well, let's see what happens to marginal cost when we start paying each worker an hourly wage of $10."

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"We can see that as the additional workers' contribution to total output initially rises, meaning the marginal cost per extra meal falls, but when diminishing returns set in, it starts to increase. Can you explain why?

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"That's right, when MP is rising, the same hourly wage is spread over a larger and larger contribution, meaning the average cost of that contribution falls; however, as soon as diminishing returns set in, the opposite occurs, and MC starts to rise as output rises further. See the two curves side-by-side below to consolidate your understanding."

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"Here are typical related past paper questions."

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--SUPPLY CURVE = MC (HL)--

"If we plot the MC curve, we are effectively plotting the willingness to supply curve, aka 'the supply curve'. If we look at the diagram on the left below, we can see that at each price level the quantity that they are willing to produce (Q*) is determined when it matches the MC, and these price-quantity combinations are exactly what the supply curve plots."

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--INDIVIDUAL & MARKET SUPPLY--

--INDIVIDUAL--

INDIVIDUAL SUPPLY refers to the combination of price and quantity that a single firm is willing and able to supply.

--MARKET--

MARKET SUPPLY refers to the summation of individual firms supplying IDENTICAL products (HOMOGENOUS or UNDIFFERENTIATED).

--NON-PRICE DETERMINANTS--

NON-PRICE DETERMINANTS OF SUPPLY refer to factors that result in changes (increases or decreases) in supply, even though the price has not changed. In other words, why is more/less of this good being supplied even though the price hasn't changed?

--𐤃COSTS OF PRODUCTION--

"We showed earlier that the supply curve is also the MC curve, therefore, IF COSTS INCREASE, the MARGINAL COST for each unit WILL ALSO INCREASE, shifting the MC curve up, which in turn means the profit-maximizing level of output will fall."

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"Below we can see in the diagram on the left, at P3 the profit-maximising level of output was Q3, but after costs increase, it falls to Q2, which is the equivalent to a LEFTWARD SHIFT in the supply curve."

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--TASK--

"Explain (using a diagram) how a rise in the price of cheese will impact the supply of 'pizza'." (4)

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--JOINTLY SUPPLIED GOOD--

"A good that is SUPPLIED JOINTLY WITH ANOTHER GOOD is said to be in ‘JOINT SUPPLY’. According to the LAW OF SUPPLY, when the PRICE OF THE OTHER GOOD RISES, its QUANTITY SUPPLIED WILL ALSO RISE, and therefore there will be an INCREASE in the SUPPLY of its JOINTLY-SUPPLIED-PRODUCT, causing a RIGHTWARD SHIFT in its SUPPLY CURVE."

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"Below we can see how the supply of leather can increase or decrease following a change in the price of beef."

--TASK--

"After watching this video explain how a rise in the price of pork will impact the supply of 'gelatin'." (4)

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--TASK--

"Read the article below and use diagrams to explain this quote: "...the potential of excess cheese production, in order to get to that whey. The cart is driving the horse.”

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--THINK AHEAD--

"If you owned a piece of land in Hong Kong and you had to choose between growing fruits or building private housing, what would you choose? What influenced your choice?"

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"Clearly the rising prices of housing as opposed to fruits influenced what you eventually decided to allocate your scarce resources towards."

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--COMPETITIVELY SUPPLIED GOOD--

"A good that USES THE SAME (SCARCE) FACTOR OF PRODUCTION AS ANOTHER GOOD is said to be in ‘COMPETITIVE SUPPLY’."

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"If the price of one of these goods rises then, according to the law of supply, more of it will be supplied, this will mean more of the shared FOP will go to that good leaving less for the other, decreasing its supply, and vice versa."

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"Below we can see how the supply of agricultural products can increase or decrease following a change in the price of housing."

--TASK--

"Use the correct diagram to explain the headline below (4)

--TASK--

The IBDP Economics course requires you to write 3x 800-word INTERNAL ASSESSMENTS, requiring you to choose NEWS ARTICLES, to which you can apply economic theories and models. Below is an article related to the above concept of competitive supply. Your TASK is to firstly read it and make sure you understand its content, then do the following:

Choose a related economic KEY CONCEPT. For this primer IA we will use the concept of 'CHOICE,' which "...relates to the act of selecting among alternatives due to scarcity, which inherently involves making trade-offs and incurring opportunity costs."
"In economics, the concept of choice is inherently related to the concept of scarcity in that... as such, when producers respond to consumer demand related to 'What to produce?' they need to make choices about...in other words... competitive supply..."
Apply and Explain how this concept is occurring in the article below
This concept(s) can be clearly illustrated in the article titled 'Green gold: Spanish farmers ditch olives for pistachios in bid to survive,' which was published in The Guardian newspaper in 2022. The article explains how farmers in Spain's Castilla-La Mancha region made the choice to...
Use data and quotes from the article as much as possible to make this into a 'Commentary' on the article rather than a generic econ answer about competitive supply.
"According to the text, farmers made this choice due to the following reasons...resulting in the demand for pistachios...."
"A local farmer is quoted as saying..."
Illustrate and explain concept with a correct and fully-labeled diagram.
"...we can illustrate this choice to ditch olives for pistachios using the following demand and supply diagrams; we can see that as the demand for pistachios increased from D1 to D2...."

--𐤃INDIRECT TAX--

A UNIT TAX refers to A PER UNIT PAYMENT THAT MUST BE PAID TO THE GOVERNMENT BY THE PRODUCER AFTER THEY SELL THEIR PRODUCT. This payment is equivalent to an INCREASE IN THE COSTS OF PRODUCTION and LOWERS THE FINAL PRICE THE PRODUCER RECEIVES, hence they SUPPLY LESS at EACH PRICE LEVEL, resulting in a LEFTWARD SHIFT in the SUPPLY CURVE.

--𐤃SUBSIDIES--

A UNIT SUBSDY refers to A PER UNIT PAYMENT THAT IS PAID TO THE FIRM BY THE GOVERNMENT. This payment is equivalent to a DECREASE IN THE COSTS OF PRODUCTION and RAISES THE FINAL PRICE THE PRODUCER RECEIVES, hence they SUPPLY MORE at EACH PRICE LEVEL, resulting in a RIGHTWARD SHIFT in the SUPPLY CURVE.

--𐤃EXPECTATION--

If producers 'EXPECT' that FUTURE PRICES will RISE, they will likely REDUCE SUPPLY TODAY, so that they can supply and sell more in the future at the higher price.
For example, many property developers in HK are slow to develop new apartment complexes as they know the longer they wait the higher the likely price of the apartments.
EXPECTATIONS of A RISE IN PRICE => FALL IN SUPPLY

Conversely, If producers 'EXPECT' that FUTURE PRICES will FALL, they will likely INCREASE SUPPLY TODAY, so that they can supply and sell more at the higher price.
For example, football shirts change their design every season, therefore, suppliers will expect prices to rise before the season begins and then fall as the season progresses and finally ends, hence supply will increase early and then fall.
EXPECTATIONS of A FALL IN PRICE => RISE IN SUPPLY

--𐤃TASTES & PREFERENCES--

Given that the RATIONAL PRODUCER aims to SUPPLY THE GOODS AND SERVICES that CONSUMERS WANT, then clearly decisions about what to supply are often based on the tastes and preferences of consumers.
For example, the recent 'Pop-it' trend and Liverpool tops

--MOVEMENTS & SHIFTS--

--MOVEMENT--

A CHANGE IN QUANTITY SUPPLIED refers to a change in the quantity caused by a change in PRICE, hence it is reflected in a MOVEMENT ALONG the SUPPLY curve.

--SHIFTS--

A CHANGE IN SUPPLY refers to a change in the quantity caused by a change in NON-PRICE, FACTORS hence it is reflected in a SHIFT in the SUPPLY curve.

--TEST YOURSELF--

INTERACTIVE PRACTICE

https://mru.org/teacher-resources/active-learning/change-supply-vs-change-quantity-supplied-interactive-practice

--TASK--

Go to https://onlinevideoconverter.pro/en19/youtube-video-downloader
Paste in the following youtube url: https://www.youtube.com/watch?v=m_5MkGbXXKc
Download as a MP4.
Go to https://clideo.com/add-subtitles-to-video
Upload the video file, then CREATE SUBTITLES that explain the REASONS for the INCREASE in the PRICE of LUMBER, which has increased by more than 252% during the Covid-19 pandemic in the US.

WATCH THE VIDEO 'How the Pandemic made lumber America's hottest commodity' (Available in the 'Class resources')
Create an INFOGRAPHIC to explain the non-price determinants of demand & supply that have caused the rise in the price of Canadian lumber as well as why tree-growers have not benefited while saw-mill owners have.
Title of your infographic: 'How the Pandemic made lumber America's hottest commodity'
Try to write it as a 'COMMENTARY'.

Infographic tools: venngage.com, piktochart.com, canva.com, or visme.co
Work in small groups if you like (max 3)
email me your efforts at robert_bounous@ofs.edu.sg

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