Supply and Producer Choice: Microeconomics Study Notes (Chapter 3)

Supply and Producer Choice

Introduction

This chapter explores the concept of supply in microeconomics, focusing on how individual businesses and markets determine the quantity of goods to sell at various prices. The notes cover individual supply, market supply, factors that shift supply, and the distinction between movements along and shifts of the supply curve.

Individual Supply

Definition and Key Concepts

The individual supply curve shows the quantity of an item that a single business is willing to sell at each price, holding all other factors constant (ceteris paribus).

• Supply Curve: A graph summarizing the selling decisions of a business at different prices.

• Ceteris Paribus: Latin for "all other things constant"; used to isolate the effect of price on supply.

• Law of Supply: As the price rises, the quantity supplied rises; as the price falls, the quantity supplied falls.

Example: If you work part-time, you may be willing to work more hours if the wage rate increases.

Creating an Individual Supply Curve

To construct a supply curve, list the quantity a business will sell at each price, then plot these points and connect them.

Price of Gas ($/litre)	Quantity Supplied (millions of litres/week)
$1.80	12
$1.60	11
$1.40	10
$1.20	9
$1.00	8
$0.50	0

Additional info: The table above is based on the Shell gasoline example from the notes.

Holding Other Things Constant

• When drawing a supply curve, assume all factors except price are constant.

• Other factors (e.g., input costs, technology) will be considered later as supply shifters.

Your Decisions and Your Supply Curve

Rational Rule for Sellers

In perfectly competitive markets, sellers are price-takers and cannot set their own prices. The Rational Rule for Sellers states:

• Sell one more unit if t he price is greater than (or equal to) the marginal cost.

• Keep selling until $\text{Price} = \text{Marginal Cost}$.

Marginal Cost: The additional cost of producing one more unit of output.

Example: If the price of gasoline is $1.60 per litre, Shell should keep selling additional litres as long as the marginal cost of producing each litre is less than or equal to $1.60.

Marginal Product and Marginal Cost

• Diminishing Marginal Product: As more input is used, the additional output from each extra unit of input decreases, leading to rising marginal costs.

• Upward-Sloping Supply Curve: The supply curve slopes upward because higher prices are needed to cover increasing marginal costs.

Market Supply

Definition and Construction

The market supply curve shows the total quantity supplied by all businesses in the market at each price.

• Sum the quantities supplied by each individual business at each price.

• Market supply inherits the characteristics of individual supply curves.

Example: If there are 100 refineries, and each supplies the same quantity as Shell at a given price, multiply Shell's supply by 100 to estimate market supply.

Market Supply Curve Properties

• Upward-sloping: Higher prices encourage existing suppliers to produce more and new suppliers to enter the market.

• Lower prices may cause suppliers to exit the market.

What Shifts Supply Curves

Supply Shifters

Factors other than price that change the supply curve:

• Input Prices: Higher input costs decrease supply; lower input costs increase supply.

• Productivity and Technology: Improvements increase supply by reducing costs.

• Prices of Related Goods: Changes in the profitability of substitutes or complements in production affect supply.

• Expectations: Anticipated future prices can lead to changes in current supply.

• Number and Type of Sellers: Entry of new sellers increases supply; exit decreases supply.

Example: If the price of wheat rises, a farmer may shift resources from corn to wheat, increasing the supply of wheat and decreasing the supply of corn.

Shifts vs. Movements Along the Supply Curve

• Movement Along the Curve: Caused by a change in the price of the good itself; results in a change in quantity supplied.

• Shift of the Curve: Caused by changes in supply shifters (input prices, technology, etc.); results in a change in supply at every price.

Example: If input prices fall, the supply curve shifts right; if the price of the good rises, there is a movement along the supply curve.

Comparing Demand and Supply

Parallels Between Demand and Supply

Demand	Supply
Rational Rule for Buyers	Rational Rule for Sellers
Demand curve is marginal benefit curve	Supply curve is marginal cost curve
Downward-sloping (diminishing marginal benefits)	Upward-sloping (increasing marginal costs)
Sum of quantity each consumer demands at each price	Sum of quantity each business supplies at each price
Movement along curve: change in quantity demanded	Movement along curve: change in quantity supplied
Shift of curve: change in demand	Shift of curve: change in supply

Summary of Key Takeaways

• The individual supply curve shows the quantity a business will sell at each price, holding other factors constant.

• The market supply curve sums the supply of all businesses at each price.

• Supply curves are upward-sloping due to rising marginal costs.

• Supply shifters (input prices, technology, related goods, expectations, number of sellers) shift the supply curve.

• Movements along the supply curve are caused by price changes; shifts are caused by changes in supply shifters.