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Home Theory of supply Law of Supply

Law of Supply:

 

Definition of Law of Supply:

 

There is direct relationship between the price of a commodity and its quantity offered fore sale over a specified period of time. When the price of a goods rises, other things remaining the same, its quantity which is offered for sale increases as and price falls, the amount available for sale decreases. This relationship between price and the quantities which suppliers are prepared to offer for sale is called the law of supply.

 

Explanation of Law of Supply:

 

The law of supply, in short, states that ceteris paribus sellers supply more goods at a higher price than they are willing at a lower price.

 

Supply Function:

 

The supply function is now explained with the help of a schedule and a curve.

 

Market Supply Schedule:

 

Market Supply Schedule of a Commodity:

(In Dollars)

Px 4 3 2 1
QxS 100 80 60 40

 

In the table above, the produce are able and willing to offer for sale 100 units of a commodity at price of $4. As the price falls, the quantity offered for sale decreases. At price of $1, the quantity offered for sale is only 40 units.

 

Law of Supply Curve/Diagram:

 

The market supply data of the commodity x as shown in the supply schedule is now presented graphically.

 

 

In the figure (5.1) price is plotted on the vertical axis OY and the quantity supplied on the horizontal axis OX. The four points d, c, b, and a show each price quantity combination. The supply curve SS/ slopes upward from left to right indicating  that  less quantity is offered  for sale at lower price and more at higher prices by the sellers not supply curve is usually positively sloped.

 

Formula for Law of Supply/Supply Function:

 

The supply function can also be expressed in symbols.

 

QxS = Φ (Px Tech, Si, Fn, X,........)

Here:

 

Qxs = Quantity supplied of commodity x by the producers.

 

Φ =  Function of.

 

Px =  Price of commodity x.

 

Tech = Technology.

 

S  =  Supplies of inputs.

 

F  =  Features of nature.

 

X  =  Taxes/Subsidies.

 

           =  Bar on the top of last four non-price factors indicates that these variables also affect the supply but they are held constant.

 

Example of Law of Supply:

 

The law of supply is based on a moving quantity of materials available to meet a particular need. Supply is the source of economic activity. Supply, or the lack of it, also dictates prices. Cost of scarce supply goods increase in relation to the shortages. Supply can be used to measure demand. Over supply results in lack of customers. An over supply is often a loss, for that reason. Under supply generates a demand in the form of orders, or secondary sales at higher prices.

 

If ten people want to buy a pen, and there's only one pen, the sale will be based on the level of demand for the pen. The supply function requires more pens, which generates more production to meet demand.

 

Assumptions of Law of Supply:

 

(i) Nature of Goods. If the goods are perishable in nature and the seller cannot wait for the rise in price. Seller may have to offer all of his goods at current market price because he may not take risk of getting his commodity perished.

 

(ii) Government Policies. Government may enforce the firms and producers to offer production at prevailing market price. In such a situation producer may not be able to wait for the rise in price.

 

(iii) Alternative Products. If a number of alternative products are available in the market and customers tend to buy those products to fulfill their needs, the producer will have to shift to transform his resources to the production of those products.

 

(iv) Squeeze in Profit. Production costs like raw materials, labor costs, overhead costs and selling and administration may increase along with the increase in price. Such situations may not allow producer to offer his products at a particular increased price.

 

Limitations/Exceptions of Law of Supply:

 

Exceptions that affect law of supply may include:


(i) Ability to move stock.


(ii) Legislation restricting quantity.


(iii) External factors that influence your industry.

 

Importance of Law of Supply:

(i) Supply responds to changes in prices differently for different goods, depending on their elasticity or inelasticity. Goods are elastic when a modest change in price leads to a large change in the quantity supplied. In contrast, goods are inelastic when a change in price leads to relatively no response to the quantity supplied. An example of an elastic good would be soft drinks, whereas an example of an inelastic service would be physicians' services. Producers will be more likely to want to supply more inelastic goods such as gas because they will most likely profit more off of them.

(ii) Law of supply is an economic principle that states that there is a direct relationship between the price of a good and how much producers are willing to supply.

(iii) As the price of a good increases, suppliers will want to supply more of it. However, as the price of a good decreases, suppliers will not want to supply as much of it. For producers to want to produce a good, the incentive of profit must be greater than the opportunity cost of production, the total cost of producing the good, which includes the resources and value of the other goods that could have been produced instead.

(iv) Entrepreneurs enter business ventures with the intention of making a profit. A profit occurs when the revenues from the goods a producer supplies exceeds the opportunity cost of their production. However, consumers must value the goods at the price offered in order for them to buy them. Therefore, in order for a consumer to be willing to pay a price for a good higher than its cost of production, he or she must value that good more than the other goods that could have been produced instead. So supplier's profits are dependent on consumer demands and values. However, when suppliers do not earn enough revenue to cover the cost of production of the good, they incur a loss. Losses occur whenever consumers value a good less than the other goods that could have been produced with the same resources.

Determinants of Supply:

 

There are four important Determinants of Supply as under:

 

(i) Technology changes. Technology helps a producer to minimize his cost of production.

(ii) Resource supplies. The producer also has to pay for other resources such as raw materials and labor. if his money is short on supplying a certain number of products because of an increase in resource supplies, then he has to reduce his supply.
 

(iii) Tax/ Subsidy. A producer aims to maximize his profit, but an increase in tax will only increase his expenses, decreasing his capacity to buy resource supplies and forcing him to reduce his supply.
 

(iv) Price of other goods produced. A producer may not only produce on product but other products as well. A producer's money is limited and if he increases his supply in one product, he would have to decrease his supply in the other product, no unless his sales increase.
 

Thus:

 

Qxs = Φ (Px) Ceteris Paribus

 

Ceteris Paribus. In economics, the term is used as a shorthand for indicating the effect of one economic variable on another, holding constant all other variables that may affect the second variable.

Relevant Articles:

Meanings of Supply
Law of Supply
Difference Between Shift in Supply Curve and Movement
Determinants of Supply
Backward Bending Supply Curve of Labor
 

Principles and Theories of Micro Economics
Definition and Explanation of Economics
Theory of Consumer Behavior
Indifference Curve Analysis of Consumer's Equilibrium
Theory of Demand
Theory of Supply
Elasticity of Demand
Elasticity of Supply
Equilibrium of Demand and Supply
Economic Resources
Scale of Production
Laws of Returns
Production Function
Cost Analysis
Various Revenue Concepts
Price and output Determination Under Perfect Competition
Price and Output Determination Under Monopoly
Price and Output Determination Under Monopolistic/Imperfect Competition
Theory of Factor Pricing OR Theory of Distribution
Rent
Wages
Interest
Profits
Principles and Theories of Macro Economics
National Income and Its Measurement
Principles of Public Finance
Public Revenue and Taxation
National Debt and Income Determination
Fiscal Policy
Determinants of the Level of National Income and Employment
Determination of National Income
Theories of Employment
Theory of International Trade
Balance of Payments
Commercial Policy
Development and Planning Economics
Introduction to Development Economics
Features of Developing Countries
Economic Development and Economic Growth
Theories of Under Development
Theories of Economic Growth
Agriculture and Economic Development
Monetary Economics and Public Finance
History of Money

 

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