The Economic Relationship between Quantity Supplied and Prices
Supply describes the economic relationship between the good’s price and how much businesses are willing to provide. Supply is a schedule that shows the relationship between the good’s price and quantity supplied, holding everything else constant.
Holding everything else constant seems a little ambitious, even for economists, but there is a reason for that qualification. By holding everything else constant, supply enables you to focus on the relationship between price and the quantity provided. And that is the critical relationship.
The difference between quantity supplied and supply
You must be able to distinguish between two terms that sound the same, quantity supplied and supply, but mean very different things. It is common for others not to make the distinction and as a result their analysis is confused.
Quantity supplied refers to the amount of the good businesses provide at a specific price. So, quantity supplied is an actual number. Economists use the term supply to refer to the entire curve. The supply curve is an equation or line on a graph showing the different quantities provided at every possible price.
How to graph supply
The supply curve’s graph shows the relationship between price and quantity supplied. When the price is very high, businesses provide a lot more treats. There’s money to be made. But if the price is very low, there’s not much money to be made, and businesses provide fewer of the item.
For example, if the price of dog treats is $5.00, businesses provide 650 boxes of treats a week. On the other hand, if the price of treats decreases to $1.00 a box, the quantity of treats provided decreases to 50 boxes a week.
Price and quantity supplied are directly related. As price goes down, the quantity supplied decreases; as the price goes up, quantity supplied increases.
Price changes cause changes in quantity supplied represented by movements along the supply curve. When the price of dog treats decreases from $5.00 to $1.00, the quantity supplied decreases from 650 to 50 boxes per week — a movement from point C to point D on the supply curve. This movement indicates that a direct relationship exists between price and quantity supplied: Price and quantity supplied move in the same direction.
Supply curve shifts
When economists focus on the relationship between price and quantity supplied, a lot of other things are held constant, such as production costs, technology, and the prices of goods producers consider related. When any one of these things changes, the entire supply curve shifts.
If an increase in supply occurs, the curve shifts to the right. In this case, an increase in supply shifted the curve from S0 to S1. As a result, more dog treats are provided at every possible price. For example, at a price of $5.00, 750 boxes of dog treats are provided each week instead of 650.
A rightward shift in the supply curve always indicates an increase in supply, while a leftward shift in the curve indicates a decrease in supply.
The factors that shift the supply curve include
Production costs: Input prices and resulting production costs are inversely related to supply. In other words, changes in input prices and production costs cause an opposite change in supply. If input prices and production costs increase, supply decreases; if input prices and production costs decrease, supply increases. For example, if wages or labor costs increase, the supply of the good decreases.
Technology: Technological improvements in production shift the supply curve. Specifically, improvements in technology increase supply — a rightward shift in the supply curve.
Prices of other goods: Price changes for other goods are a little complicated. First, in order to affect supply, producers must think the goods are related. What consumers think is irrelevant. For example, ranchers think beef and leather are related; they both come from a steer. However, customers don’t want to eat leather for dinner.
Beef and leather are an example of joint products, products produced together. For joint products, a direct relationship exists between a good’s price and the supply of its joint product. If the price of beef increases, ranchers raise more cattle, and the supply of beef’s joint product (leather) increases.
Producer substitutes also exist; using the same resources, a business can produce one good or the other. Corn and soybeans are examples of producer substitutes. If the price of corn increases, farmers grow more corn, and less land is available to grow soybeans. Soybeans’ supply decreases. An inverse relationship exists between a good’s price (corn) and the supply of its producer substitute (soybeans).