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AAEC 2305 Fundamentals of Ag EconomicsPowerPoint Presentation

AAEC 2305 Fundamentals of Ag Economics

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### AAEC 2305Fundamentals of Ag Economics

Chapter 4 -Continued

Supply

- Supply is a direct price and quantity relationship detailing the functional relationship of how suppliers (producers, sellers, & mgrs) of a product respond to differing price levels.
- It states what suppliers are WILLING and ABLE to supply at a given price.

Derivation of Mkt Supply Curves

- Supply curve for the individual firm is based on the cost structure of the firm & how mgrs respond to alternative product prices as they attempt to maximize profits.
- In chapter 4, we discussed profit maximization decision rules for the individual firm and said that the MC above AVC represented the firm short run supply curve.

Derivation of Mkt Supply Curves

- In the long run, MC curve above ATC represents the firm’s long run supply curve (remember AVC and ATC are the same in the long run).
- Additionally, the firm’s supply curve is derived under the assumption that the only economic variable changing is the goods own price. All other factors are assumed to remain constant.

Derivation of Mkt Supply Curves

- The industry supply curve is the horizontal summation of all individual firms’ supply curves in the market.

Law of Supply

- The Law of Supply says that the quantity of goods &/or services offered to a mkt will vary DIRECTLY with the price.
- Price increase will result in an increase in quantity supplied.
- Price decrease will result in a decrease in quantity supplied.
- The amt of increase or decrease depends on the Elasticity of Supply.

Elasticity of Supply (Es)

- Elasticity (in general) is defined as the percentage change in the quantity supplied relative to the percentage change in price (or other economic variable) as we move from one point to another on the supply curve.
- It is a measure of responsiveness of quantity to changes in price (or other eco variable)

Elasticity of Supply (Es)

- E= % Q / % P
- Elasticity represents movement along the supply curve and thus elasticity is also a measure of the degree of slope of the supply curve.

Elasticity of Supply (Es)

- Classifications:
- Inelastic supply (Es < 1): a change in price brings about a smaller change in quantity (we are less responsive to price)
- Unitary Elastic supply (Es = 1): a change in price brings about an equivalent change in quantity.
- Elastic supply (Es >1): a change in price brings about a relatively larger change in quantity.

Elasticity of Supply (Es)

- Mgrs & economists are interested in two types of supply elasticity measures:
- Own-price elasticity of supply - measures the repsonsiveness of quantity supplied of a good to a change in the price of that good.
- Cross-price elasticity of supply - measures the repsonsiveness of quantity supplied of a good to a change in the price of a related good.

Elasticity of Supply (Es)

- Es = % Qs / % P <or>
- Es = ((Q2-Q1) / (Q2+Q1)) / ((P2-P1) / (P2+P1))
- In class examples**

Cross-price elasticity

- ESY1Y2 = %QY1 / %PY2
- ESY1Y2 = ((QY12 – QY11) / (QY12 + QY11)) / ((PY22 – PY21) / (PY22 + PY21))
- Measures the effect of a change in the price of good Y2 on the quantity supplied of Y1.
- Read the cross-price of elasticity of supply for product Y1 with respect to product Y2.

Classification of Cross-price elasticity of Supply

- Complements in production (ESY1Y2 > 0): implies that as the price of Y2 increases, the quantity of Y1 supplied by the firm will also increase.
- Substitutes in production (ESY1Y2 < 0): implies that as the price of Y2 increases, the quantity of Y1 supplied by the firm will decrease.
- In class examples**

Change in Supply versus Change in Quantity Supplied

- Changes in quantity supply result from changes in the price of the product and are movements along the supply curve.
- Changes in supply result from changes in quantity sold due to factors other than a change in the price of the product.

Determinants of Industry Supply

- Qs = f(own price | input prices, technology, prices of alternative products, number of sellers, other factors)
- States that quantity supplied will vary with price as long as the supply shifters are held constant.

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