1.2.4 Supply Flashcards
What is supply?
Supply is the quantity of a good or service producers are willing and able to supply at a given price in a given
time period.
What is the law of supply?
The law of supply is that as price rises, so businesses expand supply. Higher prices provide a profit
incentive for firms to expand production
What does the supply curve show?
A supply curve shows the relationship between market price and how much a firm is willing and able to sell.
What does the supply curve look like?
A supply curve is drawn assuming ceteris paribus (other factors held constant) so that if price varies, we move
along a supply curve. In the diagram that follows, as price rises from P1 to P2, there is an expansion / extension of quantity supplied. If market price falls from P1 to P3, there is a contraction of quantity supplied. Businesses are responding to market price signals when making output decisions.
Explain the three key reasons why supply curves are drawn as sloping upwards from left to right giving a positive relationship between market price and quantity supplied:
- Profit motive: When market price rises following an increase in demand, it becomes more profitable
for businesses to increase their output - Production and costs: When output expands, a firm’s production costs tend to rise; therefore, a higher
price is needed to cover these extra costs of production. This may be due to diminishing returns as
more factor inputs are added to production. - New entrants into the market: Higher prices may create an incentive for other businesses to enter the
market leading to an increase in total supply. (note – if businesses enter the market for any reason
other than an increase in the price of the product, then the supply curve will shift to the right, rather
than there being a movement along it)
How are shifts in supply shown?
If supply shifts to the right (from S1 to S2) this is an increase in supply; more is provided for sale at each price.
If supply moves inwards from S1 to S3, there is a decrease in supply i.e. less will be supplied at each price
What are key factors that can cause a shift in the supply curve?
- Changes in production costs
- Changes in technology
- Govt taxes and subsidies and regulations
- Changes in climate in agricultural industries
- Changes in prices of a substitute in production
- The number of producers in the market and their objectives
How can changes in production costs cause a shift in the supply curve?
a. Lower costs of production mean that a business can supply more at each price. For example,
a magazine publisher might see a reduction in the cost of imported paper and inks. These
cost savings can be passed through the supply chain to wholesalers and retailers and may
result in lower prices for consumers.
b. If costs of production increase, for example following a rise in price of raw materials or a firm
having to pay higher wages, businesses cannot supply as much at the same price and this
will cause an inward shift of the supply curve.
c. A fall in the exchange rate causes an increase in prices of imported components and raw
materials and will lead to a decrease in supply. For example, if the pound falls 10% against
the Euro, it becomes more expensive for British car manufacturers to import rubber, glass,
steel and paint from overseas suppliers
Explain how changes in technology cause a shift in the supply curve
Production technologies can change quickly and in industries where change is rapid, we see
increases in supply and lower prices for consumers
Explain how changes in climate in agricultural industries cause a shift in the supply curve
- For commodities such as coffee and wheat, climatic conditions have a big influence on supply.
- Favourable weather will produce a bumper harvest and will increase supply. (An outward shift)
- Unfavourable weather conditions including the effects of drought will lead to a poorer harvest,
lower yields and therefore a decrease in supply (inward shift) - Because commodities are often used as ingredients in the production of other products, a change
in the supply of one can affect supply and price of another product. Higher coffee prices for
example can lead to an increase in price of coffee-flavoured cakes.
Explain how changes in prices of a substitute in production cause a shift in the supply curve
A substitute in production is a product that could have been supplied using the same resources. If
cocoa prices rise for example this may cause some farmers to switch from other crops and invest
money in establishing new cocoa plantations.
Explain how the number of producers in the market and their objectives cause a shift in the supply curve
The number of sellers in an industry affects market supply. When new businesses enter a market,
supply increases causing downward pressure on price. If the existing businesses decide to move away
from maximising their profits towards seeking a higher share of the market, total supply available at
each price will increase – the market supply curve will shift outwards.
Explain how government taxes and subsidies and regulations cause a shift in the supply curve
a. Indirect taxes cause an increase in production costs - an inward shift of supply
b. Subsidies bring about a fall in supply costs – an outward shift of supply
c. Regulations increase production costs – an inward shift of supply
