SUPPLY FUNCTION

Up to this point we focused on the demand side of the market which represents half of the forces that determine the price in a market. The other determinant is market supply. Economic theory tells us that supply for a particular product depends on its price, i.e.,

Qs = f(p)

Economic theory goes one step further, stating that

Qs = f (p, pX, W,...)

where P = its own price, pX = the prices of technologically related goods , W = the value of some other variables that affect supply, such as the existing technology or weather. Supply function is a mathematical relationship showing how the quantity supplied of a good or service responds to changes in these factors (See Figure 6). A competitive firm will produce at a level at which marginal cost equals marginal revenue (selling price). Thus, a change in input prices affects marginal cost and the quantity of output supplied.

Explanatory factors other than its own price are called supply shifters. The effect of each explanatory factor on the quantity supplied may be estimated statistically with time-series or cross-sectional data.

SHIFT IN SUPPLY

A shift in the supply of a product is brought about by a change in any factor other than the price of the product. Graphically, a shift in supply is illustrated as a parallel movement of the supply curve. A rightward (leftward) shift, or an increase (decrease) in supply implies that more (less) product is supplied than before the increase (decrease) at every price. Supply shifters include (1) input prices, (2) technology, (3) number of firms, (4) substitutes in production, and (5) excise taxes.

FIGURE 6

SUPPLY FUNCTION AND SUPPLY SHIFTERS

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