Understanding Economics Supply and Prices .

Supply: the “producer’s” perspective (Demand was from the buyer’s perspective) Supply is the amount of goods or services firms are willing and able to produce at a given price. The “law of supply” states that the higher the price buyer’s are willing to pay, the greater the quantity suppliers will produce. 6

The Supply Curve Market Supply Curve for Strawberries Market Supply Schedule for Strawberries f S 0.50 1.00 1.50 2.00 2.50 e Price ($ per kg) Quantity Supplied (millions of kg) Points on graph d 1.50 5 d Price ($ per kg) 2.00 9 e 2.50 13 f 1 3 5 7 9 11 13 Quantity Demanded (millions of kg per year) This is what buyers are willing to pay, under 3 scenarios 3

How does a producer determine what price to charge? Add up all your costs, tack on a reasonable profit, and then make that your price First see what the market price is, and then design your product to meet that price-point Government dictates the price, usually through a price-ceiling Create a monopoly, and charge what you can get away with Each approach has strengths and weaknesses. Discuss…

Supply and Prices Firms need to earn a profit in order to stay viable. Example: Sales revenue $1,000 Cost of goods sold -700 Gross profit 300 Less: Overhead -200 Net profit (before tax) 100 = 10%

Profits benefit society Profits are necessary…. To provide a return to investors & shareholders To invest back in the business. (new equipment, machinery, and supplies). To invest in research and development (R&D), to make new & improved products To cover losses during business downturns To smooth-out short-term cash flow Must a “non-profit corporation” always lose money?

“Changes in Supply” Make sure you understand the difference: 1. “Change in Quantity Supplied” This is just moving up and down an existing supply curve. 2. “Change in Supply” This is where the whole supply curve shifts to the left or right. 7

Know: “Change in Supply” vs. “Change in Quantity Supplied” 1 2 Quantity Demanded (millions of kg per year) Change in Quantity Supplied Price ($ per kg) 20 40 60 80 100 120 Change in Supply 1 2 Quantity Demanded (millions of kg per year) Price ($ per kg) 20 40 60 80 100 120 S0 S0 S1 b a 3

Know: “Determinants of Supply” Production costs Supply curve Improved technology Supply curve Prices of substitutes Supply curve 9

Changes in Supply Market Supply Curve for Strawberries S2 S0 S1 Market Supply Schedule for Strawberries 0.50 1.00 1.50 2.00 2.50 Price ($ per kg) Quantity Supplied (millions of kg) (S2) (S0) (S1) Price ($ per kg) 2.50 11 13 15 2.00 7 9 11 1.50 3 5 9 1 3 5 7 9 11 13 15 Quantity Demanded (millions of kg per year) Review: What causes supply to shift at the same price point? 3

Market Equilibrium The price will always settle where the supply and demand curve intersect! Excess supply leads to lowering of prices. This results in a lowering of production. Excess demand leads to raising of prices. This results in an increase of production.

Market Equilibrium Market Demand and Supply Schedules for Strawberries Market Demand and Supply Curves for Strawberries S 3.00 Surplus (+) or Shortage (-) (millions of kg) Surplus Quantities Price ($ per kg) 2.50 (millions of kg) D S b b 2.00 e 3.00 5 13 +8 2.50 7 11 +4 2.00 9 9 0 1.50 11 7 -4 1.00 13 5 -8 Price ($ per kg) 1.50 a a Shortage 1.00 D 1 3 5 7 9 11 13 15 Quantity (millions of kg per year)

Market Equilibrium Just enough goods and services are produced to satisfy everyone. Buyers and sellers are both satisfied. No bureaucracy or dictator was needed to determine the price or how much to produce. This is Adam Smith’s “invisible hand” at work. This is known as a “market economy” 10

Scenario 1: Sudden demand increase Market Demand and Supply Curves for Strawberries Market Demand and Supply Schedules for Strawberries Price Quantities (D0) (D1) (S) ($ per kg.) (millions of kg) S 1.00 1.50 2.00 2.50 3.00 b a shortage Price ($ per kg) 3.00 5 9 13 2.50 7 11 11 D0 D1 2.00 9 13 9 1.50 11 15 7 1.00 13 17 5 1 3 5 7 15 9 11 13 17 What will be the long term result of this D increase? S will shift to the right until price = $2 again. Quantity (millions of kg per year)

Scenario 2: Sudden supply increase Market Demand and Supply Curves for Strawberries Market Demand and Supply Schedules for Strawberries Price Quantities ($ per kg) (millions of kg) S0 S1 1.00 1.50 2.00 2.50 3.00 Surplus (D0) (S0) (S1) a b Price ($ per kg) 3.00 5 13 17 2.50 7 11 15 D0 2.00 9 9 13 1.50 11 7 11 1.00 13 5 9 1 3 5 7 9 11 13 15 17 What will be the long term result of this S increase? D will shift to the right until price = $2 again. Quantity (millions of kg per year)