Supply

What Is Supply?

Supply is a fundamental economic concept that describes the total amount of a specific good or service that is available to consumers. Supply can relate to the amount available at a specific price or the amount available across a range of prices if displayed on a graph. This relates closely to the demand for a good or service at a specific price; all else being equal, the supply provided by producers will rise if the price rises because all firms look to maximize profits.

Understanding Supply

The concept of supply in economics is complex with many mathematical formulas, practical applications, and contributing factors. While supply can refer to anything in demand that is sold in a competitive marketplace, supply is most used to refer to goods, services, or labor.

One of the most important factors that affect supply is the good’s price. Generally, if a good’s price increases, so will the supply. There is often an inverse relationship between the price consumers are willing to pay and the price manufacturers or retailers are wanting to charge.

The conditions of the production of the item in supply is also significant when a technological advancement increases the quality of a good being supplied, or if there is a disruptive innovation, such as when a technological advancement renders a good obsolete or less in demand. Government regulations can also affect supply; consider environmental laws regarding the extraction of oil affect the supply of such oil.

Supply is represented in microeconomics by a number of mathematical formulas. The supply function and equation express the relationship between supply and the affecting factors. A wealth of information can be gleaned from a supply curve, such as movements (caused by a change in price), shifts (caused by a change that is not related to the price of the good) and price elasticity. 

History of Supply

Supply and demand in modern economics has been historically attributed to John Locke in an early iteration, as well as definitively used by Adam Smith’s well-known “An Inquiry into the Nature and Causes of the Wealth of Nations,” published in 1776.

The graphical representation of supply curve data was first used in the 1800s, and then popularized in the seminal textbook “Principles of Economics” by Alfred Marshall in 1890. It has long been debated why Britain was the first country to embrace, utilize and publish on theories of supply and demand, and economics in general. The advent of the industrial revolution and the ensuing British economic powerhouse, which included heavy production, technological innovation and an enormous amount of labor, has been a well-discussed cause.

Calculating Supply

The algebraic formula for supply represents the supply of an item at any given price is:

$\begin{aligned}&Qs=x+yP\\&\textbf{where:}\\&Qs=\text{Units supplied}\\&x=\text{Quantity of units}\\&y=\text{Level of activity in the market}\\&P=\text{Price of each unit}\end{aligned}$​Qs=x+yPwhere:Qs=Units suppliedx=Quantity of unitsy=Level of activity in the marketP=Price of each unit​

If the price of the item is zero, the quantity supplied will be a negative number which indicates no supplier will be willing nor able to produce such a product at a profitable price. Instead, at a higher price, more suppliers will be willing to manufacture an item as it becomes more profitable the higher the unit price.

Related Terms and Concepts

The concept of supply is engrained in many economic concepts. Below are several associated terms or functions of economics that interact with supply.

Demand

The contrasting economic concept to supply is demand. Demand represents the consumer's desire to obtain a product. When a broad set of consumers are more willing to buy a product or service, that product or service is said to have higher demand.

Like supply, demand is directly related to a given price. For example, most consumers would be interested in the latest smartphone if the given market price was $1. Increasing the price to $1,000 shifts broad consumer desire for the product. All else being equal, price and demand are inversely related; as one increases, the other decreases).

Supply Curve

The supply curve is a graphic representation of the relationship between the cost of an item and the quantity the market will supply at that cost. All else being equal, the supply curve is upward sloping in that as the price (y-axis) of a good increases, more market participants are willing to supply (x-axis).

Equilibrium

Economic equilibrium occurs when supply and demand are equal. It is the price point when the supply curve and demand curve overlap. At equilibrium, the market will agree on the given market price.

Monopoly

A monopoly is a condition in which one seller controls the supply side of the market. Government regulation often attempts to control market conditions to ensure fair competition on the supply side. This is to ensure consumers are able to buy goods at a fair price instead of a single supplier dictating what the market price will be.

Competition

To avoid a monopoly, there must be competition. This means different companies must supply similar goods to consumers. Consumers then must choose which items to buy. Competition is meant to breed price competition, innovation, and market control to ensure that a single market participant doesn't have too much power over consumers.

Oversupply

Oversupply occurs when there is an excessive abundance of an item that consumer demand can't satiate. Consider an abundant harvest that results in an oversupply of crops; a result impact may be reduced prices to consumers to further incentivize consumption of this good compared to a scarcer good.

Scarcity

Scarcity is the opposite of oversupply. Consider a failed crop year ruined by inclement weather. Because less supply is available, it may be more difficult for consumers to obtain a specific good. This may be prevalent due to supply chain issues causing manufacturing delays or government policies pausing specific activity.

Suppy Elasticity

Price elasticity measures how the quantity of goods available will respond to a change in the unit's price. An elastic supply means that a small change in market prices will result in a relatively large change in the availability of that good from suppliers. An inelastic supply refers to goods whose supply does not change significantly in response to price changes.

Consider a product where a sudden surge of demand causes the price to increase by 10%. Suppliers of that product may start producing more of that product in order to take advantage of higher profit margins. If the supply available increases by more than 10%, the good is considered elastic. If the supply increase is lower than 10%, it is considered relatively inelastic.

Elasticity can be determined from the slope of the supply function. A relatively steep supply curve indicates a large response to price changes, indicating an elastic supply. If the supply curve appears relatively flat, then supply is inelastic.

The elasticity of the supply function at a given point can be expressed by the formula:

$\begin{aligned}\text{Elasticity}=\frac{\%\text{ Change in Supply}}{\text{\% Change in price}}\end{aligned}$Elasticity=% Change in price% Change in Supply​​

If the calculated elasticity is greater than 1, the supply of that good is considered relatively elastic. If it is less than one, it is considered inelastic.

Supply Curve

Below is a visual depiction of supply; as price (y-axis) increases, more market participants are willing to supply the product as this increases profit margin and profitability. The slope of the supply curve may be steeper for items with less price sensitivity or more gradual for items more sensitive to price changes.

Movement Along a Supply Curve

When the price of a product changes, the equilibrium point along the existing supply curve will simply change. For example, imagine a current level of supply for a good whose price is $100. Should that product's price decrease to $90, the level of supply can be found by moving along the existing supply curve down to when the price is $90.

Shift in Supply Curve

When a non-price determinant has an external impact on supply, the entire supply curve will shift. For example, consider technological innovations that influence how much of a good can be delivered. Instead of simply being a different point along an existing curve, the entire supply curve will move, and a new equilibrium point will exist on the new line.

Law of Supply and Demand

The concept of supply is a cornerstone is the economic pillar of the law of supply and demand. Consider how consumers want to buy products for as low as possible, while manufacturers/retailers want to sell products for as high as possible. The point at which supply and demand meet is what sets the market price.

The relationship between supply and demand is constantly evolving, as market demands, raw material constraints, and consumer preferences consistently shift both curves. All else being equal if the supply of a product outweighs the demand, the price of the good will fall. Alternatively, if the demand for a product outweighs the supply, the price will rise.

These (and other) outcomes can be graphically depicted using both the supply and demand curves. As the supply curve is upward-sloping to the right and the demand curve is downward-sloping to the right, the two curves often intersect (at the market price for a given level of supply/demand). Movements along or shifts in the supply curve will have a residual impact on the intersecting point with demand.

Factors That Affect Supply

As a consumer considers whether or not to increase production, there are a number of items it must keep in mind. Alternatively, there are considerations from the buyer and external, independent parties that also dictate levels of supply. Factors that affect supply include:

• Consumer Demand. As more customers demand a good, companies will focus on increasing the supply of that good. Though this may increase inventory, this may also be an indicator that high demand will cause inventory shortages until long-term production can meet short-term market demand.
• Material Costs and Availability. Manufacturers are often limited by the products used in the manufacturing process. Whether it is shortages of specific goods or delays in the delivery process, a company can only make a product if it has the consumable goods to convert into a final product.
• Technological Innovation. Companies that have invested more heavily in technology and innovation will likely have greater capabilities. Whether it is shorter machine downtime, more efficient use of materials, or shorter manufacturing time, the equipment and machinery used directly relate to how many goods a company can expect to manufacture and supply to the market in a given period of time.
• Government Policy. Some policies may limit production or impose disincentives that make a company not want to supply markets with specific goods. Alternatively, companies may receive tax incentives or subsidies to ramp up production. In either case, the government directly influences the quantity of product released to the market.
• Natural Factors. Should inclement weather damage crops, the agriculture sector may have no choice but to undersupply the market. On the other hand, favorable weather may result in the strongest yields.
• Economic Conditions. As macroeconomic conditions worsen, companies may choose to slow production, decrease long-term investments, or wait to react to consumer demand and make products accordingly. Alternatively, should credit be easily accessible for cheap, companies may be more likely to build inventory, incur additional expenses, and risk manufacturing additional goods to experiment in new markets.

Types of Supply

Short-Term Supply

Short-term supply is the inventory immediately available for consumption. When short-term supply has been exhausted, consumers must wait for additional manufacturing or production for more goods to become available. Short-term supply is the maximum amount consumers can immediately purchase.

Long-Term Supply

Long-term supply considers consumer demand, material availability, capital investment, and macroeconomic conditions. These factors all dictate how a company should shift manufacturing to meet long-term demand. Though long-term supply may only be able to grow gradually over time, suppliers have greater control over increasing or decreasing long-term supply by enacting operational strategies.

Joint Supply

Joint supply occurs when the manufacturing of one good will result in the byproduct of another good. Regardless of the demand for the byproduct good, it may be manufactured and supplied simply in response for demand of the other product. For example, the production of crude petroleum results in gasoline, fuel oil, kerosene, and asphalt. The supply of one item may increase simply due to greater demand of other items.

Market Supply

Market supply refers to the daily supply of goods often with a very short-term usable life. For example, grocery stores may measure their market supply of fresh produce or fish. Each of these goods is exclusively dependent on the supplier's ability to harvest these products, as additional supply may be out of the control of the farmer.

Composite Supply

Opposite of joint supply, composite supply is the offering of a product that is multiple products packaged together. Both products must be offered together, and the maximum supply is equal to the smaller of the two products. For example, a company manufacturers pints of ice cream that are sold along with compostable spoons. Neither product is sold individually. In this example, the amount of composite supply is the lower of the quantity of pints of ice cream or composable spoons.

Exceptions to the Law of Supply

The rules of the supply curve are often consistent. However, there are situations where the rules of supply are broken, and exceptions to the economic concept yield abnormal results.

• Business Closures. When companies are being liquidated or forced to sell assets, they may be incentivized or required to sell inventory and convert goods to cash. This may be the case even when goods are being sold at a less-than-favorable price.
• Uncontrollable Products. Consider how limited resources such as farmland constrain the amount of supply. Even if prices turn more favorably for farmers, it may be difficult for industries with supply constraints to manufacture more goods.
• Monopolistic Industries. The basic laws of supply are foregone when only a single commodity seller exists. This single seller may be the price maker and may dictate how many items are placed on the market at any given price.
• Perishable Goods. Certain goods may have a limited shelf life. At a given point, companies may be incentivized to sell a product at a lower price to yield any level of revenue (as opposed to a total loss).
• Rare/Collectible Items. A price premium often occurs for rare or collectible items whose supply may be reduced to a single instance. For this reason, there may be a steeper, less predictable supply curve that only exists at certain levels of supply.
  

Use of Supply in Macroeconomics

Money supply refers specifically to the entire stock of currency and liquid assets in a country. Economists will analyze and monitor this supply, formulating policies and regulations based on its fluctuation through controlling interest rates and other such measures. Official data on a country’s money supply must be accurately recorded and made public periodically. The European sovereign debt crisis, which began in 2009, is a good example of the role of a country’s money supply and the global economic impact.

Global supply chain finance is another important concept related to supply in today’s globalized world. Supply chain finance aims to effectively link all tenets of a transaction, including the buyer, seller, financing institution—and by proxy the supplier—to lower overall financing costs and speed up the process of business. Supply chain finance is often made possible through a technology-based platform and is affecting industries such as the automobile and retail sectors.

The Bottom Line

A cornerstone of economic theory is the concept of supply, the number of goods provided to a market for consumption. The idea of supply pairs with the idea of demand, and these two concepts intertwine to create a market equilibrium that often defines the prices consumers pay and the supply level manufacturers strive for.