Theory of supply
Supply means the quantity of goods services a producer is willing and able to offer for sale in the market at the prevailing price per period of time.
The law of supply states that, “The higher the price the higher the supply and the lower the price, the lower the supply, other factors remaining constant.
Assumptions of the law of supply.
The law of supply operates all factors affecting supply are kept constant apart from the price therefore the following gave its assumptions.
- The level of technology is constant
- The climatic season remains the same
- The number of producers remains the same
- The government policy remains unchanged.
- The price factor of inputs remains fixed
- The level of demand remains the same
- The prices of other related goods remains the same.
Supply schedule – Is a table that shows various quantities of goods and services offered for sale are their corresponding prices.
An individual supply – Is a table that shows various quantities of goods services a single producer is willing and able to offer for sale in the market at different prices per period of time.
Market supply schedule – Is a table that shows different total quantities that producers are willing and able to offer for sale in the market at different prices per period of time.
Note: In order to get a market supply schedule we add up individual supply schedules
Supply curve – Is a geometrical representation of various quantities offered for sale by producer of a commodity and their corresponding prices.
Note: The supply curve can be an individual or market supply curve, therefore in order to get a market supply curve we add up individual supply curves.
Factors Affecting Supply
- Price of the commodity
The higher the price of the commodity, the higher the supply,the lower the price of the commodity, the lower the supply, other factors remaining constant.
- Number of producers.
If there is a big number of producers of a particular commodity, supply will be high and when there is less number of producers of a particular commodity supply will be low.
- Production technique (level of production)
With the use of improved and better technology, supply will be big. However the use of inferior and low level of technology, supply will be low.
- Government policy
Provision of subsides to producers results into more supply as it lowers the cost of production on the other hand imposition of taxes discourages producers and hence low supply.
- Gestation Period ( production period)
The shorter the gestation period, the higher the supply and the longer the gestation period, the lower the supply.
- Time in the short run, supply will be less since some factors input will be fixed. However in the long run supply will be high as the form will be able to very all its factor in put
- Price of the substitutes
When the price of the substitute is high, supply of a good in question will be low because of low level of profitability but however the price of the substitute is low supply of a good in question will be high.
- Price of the complement (Jointly Supplied goods)
When the price of the complement is high, supply of a good in question will be high and the opposite is true. E.g. when the price of meat is high supply of hides will also be high and vice versa
Change in Quantity supplied and change in supply
- This means increase and decrease in quantity supplied due to change in the price of the commodity other factors remaining constant.
When the price increases quantity supplied increase and with the price decrease quantity supplied decrease.
Change in supply (Rise and Fall in Supply)
- Also referred to the shift of the supply curve. This means rise or fall in supply due to all factors affecting supply apart from the price. When the supply curve shifts to the right it means a rise in supply and when it shifts to the left it means decrease/ fall in supply.
FACTORS OF CHANGE IN SUPPLY
- Cost of Production.
When cost of production of any commodity rises, supply falls and vice verse.
- Climate situation
If climatic situation remains favorable agricultural production will increase and as a result of this supply will rise and vice verse.
- Improvement in the method of production.
When new and less expensive methods of production are invented, supply will increase/ rise and vice verse.
- Development of means of transport and communication
If means of transport and communication are adequate and developed, it will be possible to move commodities from one place to another place. In this case supply will rise and vice verse.
- Peace and security.
With peace and security, supply rises because production is encouraged and vice verse
- Policy of the Government.
When restrictions are levied by the government on the movement of goods, supply will fall and when such restrictions are removed supply will rise.
- Rates of Taxes
When taxes are levied at a higher rate, supply falls and vice verse.
Abnormal Supply curve
Is that supply curve which disobeys the law of supply. It has a negative slope. It implies that the higher the price of the commodity, the lower the quantity supplied of it and vice verse.
The cases of abnormal supply curve are not common. In very rare cases only a supply curve will be of the abnormal shape. There is one good example of abnormal supply curve i.e. the bending supply curve of labor. This shows that beyond a specific wage level, any rise in ways will result in decrease in working hours. The shape of the supply curve of labor is as under.
When wages rise beyond OW then working hours decrease.
Inter – related supply
- Joint Supply
Some goods are produced together. The supply of those goods which have common process of production is known as joint supply. The supply of such goods is increased or decreased simultaneously.
E.g. a) Wood and Mutton are produced jointly
- b) From crude oil, different types of petrol production are obtained
Such as diesel, engine oil, super etc.
- Composite Supply
The goods which are substitute of one another their total quantity is called composite supply.
E.g. a) Supply of Mutton, beef and chicken
- b) Supply of Tea and Coffee
- c) Supply of cold drinks like Coca cola and Pepsi
- Competitive Supply.
There are some alternative uses of land, labor and capital. If these factors are used for the production of one commodity then the supply other commodities is affected.
E.g. a) If more land is used to produce wheat then production of maize will
Decrease. The supply of these goods is competitive supply
ELASTICITY OF SUPPLY.
Elasticity of Supply – Is the measure of the ease with which an industry can be expanded and of the behaviour of the marginal costs.
- Price Elasticity of Supply
Price elasticity of supply is the measure of degree of responsiveness of supply due to change in price of commodity
P.E.S = (proportional change in amount supplied)/(proportional change in price)
Interpretation of PES
- PES = 0 (perfectly inelastic)
This means there is no change in quantity supplied due to change in price
- PES < 1 ( inelastic )
This means that the change in price is greater than the change in quantity supplied
- PES = 1 (unitary)
This means the amount of change in price is equal to the amount of change in quantity supplied
- PES > 1 (elastic)
This means that change in quantity supplied is more than change in price.
- PES α (perfectly elastic.)
This means that there is no change in price but there is change in quantity supplied
FACTORS THAT INFLUENCE P.E.S.
- Gestation Period.
If a commodity has a short gestation period its supply will be price elastic as supply can easily be increased in a shorter period of time. E.g. industrial goods, however if a commodity has a longer gestation period its supply will be price in elastic eg. agricultural goods.
- Degree of entry of new firms in the market.
If there is free entry of firms in the market eg. under perfect competition supply would be price elastic. However if there are barriers to entry of new firms in the market. E.g. under monopoly supply would be price inelastic.
- Ability to store stock
For those commodities which can easily be stored their supply is price elastic, as supply can easily be increased from the existing stock. However for those goods that can easily be stored e.g. vegetables, their supply is price in elastic.
- The existence of spare capacity
If a firm is operating at full capacity, further increase in output will be more difficult and hence in elastic supply. However if a firm is operating below full capacity supply will be price elastic as more output can be product by further utilizing, the underutilized factor inputs.