1

The Supply Decision

THE WILL TO WIN IS IMPORTANT, BUT THE WILL TO PREPARE IS MORE IMPORTANT

SUPPLY ANALYSIS
Supply is defined as the amount of the commodity which the seller or producers are able and willing to offer for sale at a particular price, during a certain period of time. Supply Function
QSx = f{ Px, St, Tr, Cp, Fp, Gp.}
3

Determinants of Supply - Price of the Commodity Natural conditions State of Technology Transport conditions Factor prices and their availability Government Policy Number of competitors
4

Law of Supply
Law of Supply states that, Other things remaining the same (Ceterius Paribus) when the price of the commodity increases the quantity supplied increases.
QSx = f {Px}
5

Supply Schedule
Price of Pizza (Rs.) 500 400 300 200 100 Quantity Supplied (units) Producer A 8 7 5 3 0
6

Market Supply Schedule Horizontal summation of individual supply schedule

Price of Pizza (Rs.) 500 400 QS by Mr. A 8 7 QS by Mr. B 10 9 QS by Mr. C 12 11 Market Supply 30 27

300
200

5
3

8
7

10
0

23
10

100

Producer As Supply Curve Of SS Pizza

P R I C E P1 P Y

Q1

X
8

Quantity Supplied

Exceptions to the Law of Supply

Backward Bending Supply Curve.
Y W A G w E R w A T E w SS

c b

a S

L L

X No. of Laborers
9

Exceptions to the Law of Supply:

Land, Rare paintings or antics
Y P R I C E

SS P

P
X
10

Land

Other exceptions to the law of supply:

Perishable goods Agriculture goods Goods for auction Disposal of stock

11

Change in Quantity supplied

Expansion in Supply Contraction in Supply

12

Change in Quantity supplied

P R Y SS

I
C E P c

P
P

Expansion

Contraction
O Q Q Q Quantity Supplied X
13

Changes in Supply Increase in Supply Decrease in Supply

14

Changes in Supply
P R I C E Y SS SS SS

Decrease
P

Increase

X
15

QUANTITY SUPPLIED

Case: 27
With the help of supply curve explain the impact on price and quantity supplied: Hot chocolate the price of hot chocolate increases Hot chocolate the price of cocoa beans increases Microchips if scientist invent a improved technology of producing. Agriculture Bumper crop Textile the price of cotton increases
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Elasticity of Supply
defined as the degree of responsiveness of the quantity supplied due to the change in price.

Percentage change in the quantity supplied Es= -------------------------------------------------Percentage change in the price

17

Measurement of Elasticity of Supply

Es =

Qs P

P Qs

18

Types of elasticity of Supply

Perfectly elastic (Es=) Relatively elastic (Es>1) Perfectly inelastic (Es=0) Relatively inelastic (Es<1) Unitary elastic (Es=1)
19

Types of elasticity of Supply

Y

es = 0

es < 1

es = 1
P R I

es > 1

C E

es =
O X QUANTITY SUPPLIED

20

Case: 13.
When the price of Pizza was Rs. 20 Simi supplied 3 pieces of Pizza. When its price increased to Rs. 40, she supplied 5 pieces of Pizza. Find elasticity of supply.
Answer: Es = 0.66
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Factors affecting elasticity of supply

(1) Nature of the Product : Perishable - Inelastic Durable Elastic (2) Time Period : Market Period Perfectly inelastic Short Period Inelastic Long Period Elastic
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Factors affecting elasticity of supply

(3) Scale of Production : Small Scale Inelastic Large Scale Elastic
(4) Number of Competitors Less rivals Inelastic More rivals -- Elastic
23

Factors affecting elasticity of supply

(5) Natural factors Good Rainfall Elastic Bad Rainfall Inelastic
(6) Mobility of Factors : High degree of mobility Elastic Low degree of mobility Inelastic
24

No-Case-on-the Table Principle

Equilibrium

25

Market Demand and Supply Equilibrium of Pizza

Price (Rs.) Quantity Supply (QS) 8000 6000 Quantity Demanded (QD) 2000 3000

6 5

4
3 2

4000
2000 0

4000
5000 6000
26

Equilibrium
Y P R I C E DD
SURPLUS

SS

SS > DD

Producers bid the price down

4

4000 QUANTITY DEMANDED AND SUPPLIED

X
27

Equilibrium
Y P R I C E DD SS

Consumers bid up the prices

4 3

Shortage DD>SS
O 4000 QUANTITY DEMANDED AND SUPPLIED

X
28

Equilibrium
Y P R I C E P E P P E DD SS

DD

DD

Q Q Q QUANTITY DEMANDED AND SUPPLIED

X
29

Equilibrium
Y P R I C E
E P P P DD SS SS

SS

E
E

Q Q Q QUANTITY DEMANDED AND SUPPLIED

X
30

Case: 29
Consider the Market for minivans. For each of the events listed here, explain using demand and supply curves the effect on the price and quantity of the minivans. People decide to have more children A strike by steel workers raises steel prices Engineers develop new automatic machinery for the production of minivans The price of railway wagons increases. A stock market crash lowers peoples 31 wealth.

People decide to have more children

Y P R I C E P E P DD DD SS

Q Q QUANTITY DEMANDED AND SUPPLIED

X
32

A strike by steel workers raises steel prices

Y P R I C E
E P P DD SS SS

Q Q QUANTITY DEMANDED AND SUPPLIED

X
33

Engineers develop new automatic machinery for the production of minivans

PY R I C E
E
P P E SS

SS

DD

Q Q QUANTITY DEMANDED AND SUPPLIED

X
34

The price of railway wagons increases.

Y P R I C E
E P P DD SS SS

Q Q QUANTITY DEMANDED AND SUPPLIED

X
35

A stock market crash lowers peoples wealth.

Y P R I C E SS

DD

DD

E P P E

Q Q QUANTITY DEMANDED AND SUPPLIED

X
36

Case: 30
Assume that the Indian Jute Industry is at present in a equilibrium state with the producers supplying jute bags only to the domestic market at the prevailing market prices. Apart from domestic suppliers, Indian jute industry faces competition from Bangladesh. Explain with the help of supply-demand curves how the following events affect the equilibrium in the jute industry?
37

Case: 30 conti.
Poor domestic demand Increased competition from Bangladesh Cement industry, which is one of the largest users of jute bags, exempted from mandatory jute packaging Farmers, instead of producing jute, use their farm lands for some other purposes. 38

Test question:
Suppose we are analyzing the market for hot chocolate. What will be the impact on the equilibrium price and quantity of each of the following events affecting the hot chocolate market? Draw appropriate diagram and explain. (If all correct additional 2 marks will be given).

39

Test question: conti

1. Winter starts and the weather turns sharply colder. 2. The price of coffee falls. 3. The price of whipped cream falls. 4. The price of cocoa beans increases. 5. Consumer income falls because of recession. 6. The Surgeon General of the US announces that hot chocolate cures acne. 7. Population increases. 8. A better method of harvesting cocoa beans is introduced.
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MINUTES ARE WORTH MORE THAN MONEY, SPEND THEM WISELY

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PRODUCTION AND COSTS ANALYSIS

Production is defined as the

transformation output

of

inputs

into

Production Function: Q = f{N, L, K, T}

42

Importance of Production Function

Gives the idea of Optimum level of output and employment. Tell management the Budget Constraint for increase in output Explains the degree of Substitution and Complementary of different factors of production
43

Importance of Production Function

Endeavor to produce an upward shift in production function. Explains the possibility of Disguised unemployment Explains the behavior of production function under different conditions
44

Production Function

Short Run Theory Law of Variable Proportions

Long Run Theory Law of Return to Scale

45

Concepts:
Total Product output produced in Physical units Marginal Product rate of change in Total Product Average Product Total Product divided by Quantity of Variable factor.
46

Concepts:
Total Product Average product = _______________ Variable factor TP Marginal product = ______________ Variable Factor
47

The Law of Diminishing Returns to Factor or Law of Variable Proportions As equal increments of one input are added; the inputs of other productive services being held, constant, beyond a certain point the resulting increments of product will decrease, i.e., the marginal product will diminish. (G. Stigler)
48

Assumptions:
State of technology is constant The quantity of one of the input (Fixed) is constant. The Variable Factor is homogeneous. Only physical relationship between the factors are considered. No monetary value is taken into consideration.
49

Land 2 2

Labor 1 2

TP 20 50

AP

MP

2
2 2 2 2 2 2

3
4 5 6 7 8 9

90
120 140 150 150 130 100
50

Land 2 2

Labor 1 2

TP 20 50

AP 20 25 -30

MP

Stage- I

2
2 2 2 2 2 2

3
4 5 6 7 8 9

90
120 140 150 150 130 100

30
30 28 25 21.5 11.1

40
30 20 10 0
Stage- III

Stage- II

16.25 -20 -30

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Total / Average / Marginal Product

Stage-I IRF
Point of Inflexion

Stage-II
F

DRF

Stage-III
NRF

TP

K H

AP
Q1 X Q

Output

MP

52

Land

Labor

TP

AP

MP

2 2 2 2 2 2 2

0 1 2 3 4 5 6

0 15

--

--

20 20 76 15 15
53

Land

Labor

TP

AP

MP

2 2 2 2 2 2 2

0 1 2 3 4 5 6

0 15 40 60 76 91 90

-15 20 30 19 18.6 15

-15 25 20 16 15 -1
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Limitations of Law of Variable Proportions :

New methods of cultivation New Soil Insufficient Capital

55

Application of Law of Variable Proportion :

Agriculture sector Fisheries Mining

56

Economies of Scale
Large scale of production is
economical in the sense that the cost of production is low. Anything which serves to minimize average cost of production in the long run as the scale of output increases is referred as economies of scale.
57

Diseconomies of Scale
Beyond a particular limit certain disadvantages of large scale production emerge. Diseconomies raises the average cost of production, act as a limiting factor on the further expansion of the firm.

58

Economies of Scale

Internal Economies

External Economies

59

Economies of Scale
Internal Economies Technical Economies Managerial Economies Financial Economies Labour Economies External Economies Economies of Concentration Economies of Information Economies of vertical Disintegration Economies of By-products 60

Diseconomies of Scale

Internal diseconomies

External diseconomies

61

Diseconomies of Scale.
Internal Diseconomies Technical Problems Managerial Inefficiency Financial difficulties Unskilled Labor External Diseconomies Increase in factor prices Increase in raw material prices Congestion and pollution etc
62

Economies of Scope
It refers to the lowering of costs that a firm often experience when it produces two or more products together rather than each alone. For example, Printing Machine can be used for printing magazine, pamphlets, newspaper, visiting cards, ceremony cards etc. Banking sector
63

Case: 17 Classify the following into Economies and Diseconomies of scale-1. 2. 3. 4. 5. 6. 7. 8. 9. 10. Increase in interest rate on loan. Expert consultants. Bureaucracy Political disturbance Fall in the prices of shares in the speculative market. Air Pollution Power cuts. Indefinite transport strike. Ego Clashes among the managers. Expert and efficient labourers.

64

Long Run: Law of Returns to Scale

Economies of Scale > Diseconomies of Scale = Law of Increasing Returns to Scale Economies of Scale = Diseconomies of Scale =Law of Constant Returns to Scale Economies of Scale < Diseconomies of Scale =Law of Diminishing Returns to Scale

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Law of Returns to Scale

Scale Of Inputs Total Marginal Product Product
10 30 60 100 140 180 210 230 240 10 20 30 40 40 40 30 20 10

1 Labour + 1Machine 2 Labour + 2Machine 3 Labour + 3Machine 4 labour + 4 Machine 5 labour + 5 Machine 6 labour + 6 Machine 7 labour + 7 Machine 8 labour + 8 Machine 9 labour + 9 Machine

IRS

CRS

DRS
66

Law of Returns to Scale

Y

Inputs

Output

67

GREAT MINDS DISCUSS IDEAS, AVERAGE MINDS DISCUSS EVENTS, SMALL MINDS DISCUSS PEOPLE

68

COSTS
Cost can be Nominal costs and Real costs. Nominal cost is the money cost of production or called expenses of production. 1. Accounting Cost 2. Economic Cost
69

COSTS
Real cost of production signifies toils troubles, sacrifice on account of social effects of pollution caused by factory smoke etc.

70

TYPES OF COSTS
Accounting Costs includes
Wages to labor Interest on borrowed capital Rent or royalty to owners. Cost of raw materials Replacement and repairing charges of machinery Depreciation of capital goods 71 Normal profits of the producer.

Types of cost

Accounting cost = Explicit cost Economic costs = Explicit cost + Implicit cost

72

TYPES OF COSTS
Explicit cost - is the payment which the firm makes to those outsider who supply labor services, raw materials, transport services, electricity etc. Implicit cost are the cost of self owed resources which are employed by the firm are non expenditure or implicit costs.
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Opportunity cost or Alternative cost

Foregone benefits from the next best alternative use of a given resources. For e.g., the alternative cost of one unit of product A is the amount of product B that has been sacrificed by allocating the resources to produce A rather than B.
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Opportunity cost or Alternative cost

Cont..

Importance of Opportunity cost: Determination of Relative Prices of Goods. Determination of Normal remuneration to a factor. Decision making and efficient resource allocation.
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Other COSTS
Incremental cost - cost which increase because of expansion of a firm. Sunk cost - which have to be borne whether there is expansion or not. Common cost are common to all the products of multiple product firm. Traceable cost costs which are traceable to a particular product of a multiple product firm.
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TYPES OF COSTS
Fixed costs (Prime Costs)- cost which remains fixed irrespective of the level of output produced. They remain constant in the short run can change only in the long run. For example, plant, machinery, building etc Variable cost (Supplementary costs) vary with the level of output in the short run as well as in the long run. For example, labour, raw material, fuel etc 77

TYPES OF COSTS
Total Cost = Total Fixed + Total Variable cost cost

78

Units of Capital 1 1 1 1 1 1 1 1

Units of Labour 0 1 2 3 4 5 6 7

Total Product 0 2 5 10 15 18 20 21

TFC (Rs.) 100 100 100 100 100 100 100 100

TVC (Rs.) -10 20 30 40 50 60 70

TC (Rs.) 100 110 120 130 140 150 160 170

79

Total Fixed Cost (TFC)

Y TFC

TFC

Output

X
80

Total Variable Cost (TVC)

Y TVC TVC

Output

X
81

TC TVC

TVC

TFC A

TFC

Output

X
82

Per unit costs AFC = TFC / Q AVC = TVC / Q AC = TC / Q or AFC + AVC MC = TC / Q

83

TYPES OF COSTS per unit costs Average Fixed Cost: The fixed cost incurred for the production of per unit of a product.

84

Average Fixed Cost (AFC)

Y AFC TFC

AFC =
Q

Rectangular Hyperbola AFC O Output X

85

TYPES OF COSTS per unit costs Average Variable Cost: The Variable cost incurred for the production of per unit of a product.

86

Average Variable Cost (AVC)

Y AVC TVC AVC

AVC =
Q

Output

X
87

TYPES OF COSTS per unit costs Average Cost Or Average Total Cost: It is the total of Average Fixed Cost and Average Variable cost. i.e. AC or ATC = AFC + AVC Or AC = TC / Q
88

Average Cost (AC) or Average Total Cost (ATC)

Y TC AC AC

AC or ATC =
Q

Output

X
89

TYPES OF COSTS per unit costs

Marginal Cost : MC = Rate of change in the total cost or total variable cost. It is the slope of total Marginal Cost : MC = TC / Q Or Marginal Cost = TCn - TC n-1
90

Marginal Cost (MC)

Y TC MC MC

MC =
Q

Output

X
91

Y AC, AVC, MC

MC AC AVC

AFC

F
H AFC O Output X
92

Case: 13. Cost Relationship

Q 0 1 TFC TVC 60 60 00 20 TC AFC AVC AC MC

2
3 4

60
60 60

30
45 80

60

135

93

Case: 13. Cost -output Relationship

Q 0 1 TFC TVC 60 60 00 20 TC 60 80 AFC AVC AC -60 -20 -80 MC -20

2
3 4

60
60 60

30
45 80

90
105 140

30
20 15

15
15 20

45
35 35

10
15 35

60

135

195

12

27

39

55 94

Case: 13. Cost-output relationships

Q 0 1 2 210 TFC TVC TC 250 100 AFC AVC AC MC

3
4 5

220
510 60

6
7 8 9 590 90

100
60
95

Costs

SRAC1

SRAC2

SRAC3

SRAC5 SRAC4 LRAC

H J K F

Optimum level of output

Q1

Q2

Q3

Output
96

Table for LAC

SAC1 Q 1 2
3 4 5 6

SAC2 Q 3 4
5 6 7 8

SAC3 Q 5 6
7 8 9

SAC4 Q 9 10
11 12 13

AC($) 20.00 17.00

15.50 15.00 16.00 18.00

AC($) 16.00 13.00

12.20 12.00 13.00

AC($) 13.00 11.50

10.50 10.00 10.50 11.00 12.00

AC($) 12.00 11.50

11.70 12.00 13.50

15.00 10 11

97

Table for LAC

SAC1 Q 1 2
3 4 5 6

SAC2 Q 3 4
5 6 7 8

SAC3 Q 5 6
7 8 9

SAC4 Q 9 10
11 12 13

AC($) 20.00 17.00

15.50 15.00 16.00 18.00

AC($) 16.00 13.00

12.20 12.00 13.00

AC($) 13.00 11.50

10.50 10.00 10.50 11.00 12.00

AC($) 12.00 11.50

11.70 12.00 13.50

15.00 10 11

98