Determinants of Supply/ Factors affecting Supply

Learning Contents:  

• Factors affecting supply of the commodity

                                                   

Supply refers to the quantity of the commodity that a seller is willing and able to sell at different possible prices during a particular point of time. The quantity of the commodity that a firm sells is not only affected by the price of the commodity but other factors such as price of related goods, cost of production, objective of the firm, etc. Therefore, the supply function shows the functional relationship between the quantity supplied; price and the various factors affect the supply of the commodity. The supply of a commodity is a function of various factors stated in an equation below:

S_x=f (P_X, P_{r ,} O, G_P, T, S, P_F, E, I, P_W, N_D)

 Here, S_x = Supply for Commodity X; P_X = Own price of the given Commodity x; P_r = Prices of Related Goods; O = Objective of the firm; G_P = Government policies; T = Technological improvements; N = Number of sellers; E = Expectations about future prices; I= Investment; P_w = productivity of workers; N_D= Natural Disasters

 

1. Own price of a commodity (P_X)

As studied earlier that supply and price of the commodity has positive relationship with each other. It means that more quantity of commodity is supplied at higher price and less quantity is supplied at lower price. In other words, a seller is willing to sell more commodities at higher price in order to maximize the revenue or profits. 

2. Price of the related goods or returns from alternative production (P_r)

Price of related goods also determines the quantity supply of the commodity. A producer will be profitable to increase the production of the goods whose price are increased and consumers are also ready to pay the higher price as it will bring more revenue for the producer. For.eg. If the price of tea increases, a coffee producing farmer will decrease the production of coffee and utilize all of his resources for the production of tea. Doing this will reduce the supply of coffee and increase the supply of tea because it involves the concept of opportunity cost i.e. more tea can only be produced with less coffee.

 

3. Objective of the Firm (O)

A firm whose objective is to maximize the profits would be willing to sell more quantity of the commodity at a higher price. On the other hand, if its objective is sales maximization, it would sell more quantity of commodity at lower prices.

4. Government Policies (G_P)

Government policies, such as taxes, subsidies, and quota restrictions, and all impact the cost of production, that further impacts the profits and as a result the production or supply of the commodity. For e.g. If government increases taxes, it will increase the cost of production and -as a result decrease the supply of the commodity. The subsidy policy does exactly opposite. If government provides more subsidies to producers; will reduce the cost of the production and – as a result increase the supply of the commodity. Also, if a government imposes some ban or quota like restrictions on the import of foreign-produced item; the result would be less supply of the commodity.

 

5. Technological improvements (T)

A change in technology alters the combination of inputs needed in the production process. An improvement in technology motivates a producer to use less or fewer inputs in the production process. Therefore, if the firm adopts the latest technology in performing its operations will reduce its cost of production and thus increase the supply of the commodity.

 

6.Number of sellers( S)

An industry consists of groups of firms producing the similar commodities. If more firms start producing the similar items, the market supply will increase. In other words, an increase in the number of firms will increase the supply of the commodity. On the other hand, a decrease in the number of the firms will reduce the supply of the commodity.

7. Price of the factors of production or factor inputs (P_F)

A producer requires various factor inputs like land, labor, capital and entrepreneur to convert the raw material into finished goods. Therefore, the price of factor inputs used in the production not only influences the cost of production but also determines the price and supply of the commodity. An increase in the price of factor inputs will increase the cost of production. As a result, it will increase the price of the commodity and reduce the supply of the commodity. A reduction in the price of factors inputs will decreases the cost of production. As a result, it will decrease the price of the commodity and increase the supply of the commodity. For example- If a coffee producing farmer pays high wages to his labour for harvesting the crop or pays high for fertilizer. Such increase in production cost will cause the farmer to produce less quantity of coffee.

8. Expectation about future prices (E)

If a producer expects the price of the certain commodities to rise in future period of time; he will store maximum of his current production in order to sell them at higher price in future to earn more profits. This would reduce the current supply of the commodity. On the other hand, if he expects the price to fall in future period of time; he will sell more of his current production today. This would increase the current supply of the commodity.

 

9. Investment(I)

If a firm increases its investment in expanding its production capacity will increase the supply of the commodity. For example, Building a New factory will increase the supply of the commodity.

10. Productivity of workers(Pw)

 If workers become more motivated and work hard, then there will be significant increase in output and supply.

11.Natural Disasters (N_D)

Natural disasters like flood, hurricanes, storms and drought etc. affects the agricultural production and thus the supply of the commodity. Such natural disasters directly or indirectly destroy the agricultural crops and reduce the agricultural supply.

 

Let’s try some questions

Choose the Correct Answer

1. A fall in the price of a good causes producers to reduce the quantity of the good they are willing to produce. This fact illustrates

a. a change in supply.

b. the law of demand.

c. the nature of an inferior good.

d. the law of supply.

2. Which of the following would NOT be a determinant of supply?

a. the price of related goods.

b. income of the consumer.

c. technology.

d. the prices of the inputs used to produce the good.

3. What will happen in the rice market if sellers are expecting higher prices in the near future?

a. The demand for rice will decrease.

b. The supply for rice will decrease.

c. The supply for rice will be unaffected.

d. The supply of rice will increase.

4. Suppose that there is an increase in government subsidies. We would expect

 a. supply to increase.

b. supply to decrease.

c. supply could increase or decrease.

d. supply to remain unchanged.

5. Wheat is the main input in the production of flour. If the price of wheat increases, all else equal, we would expect,

a. the supply of flour to be unaffected.

b. the supply of flour to decrease.

c. the supply of flour to increase.

d. the demand for flour to decrease.

6. Suppose that the number of suppliers increases in a market, it causes

a. supply to increase.

b. demand to increase.

c. demand to decrease.

d. supply to decrease.

7. If a producer can use resources to produce either good A or good B, then A and B are  

a. substitutes in consumption.

b. complements in consumption.

c. complements in production.

d. substitutes in production.

8. An increase in the number of fast-food restaurants

a. increases the demand for substitutes for fast-food meals.

b. raises the price of fast-food meals.

c. increases the supply of fast-food meals.

d. increases the demand for fast-food meals.

Answer Key

 

1.a	2.b	3.b	4.a
5.b	6.a	7.d	8.c

 

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