Supply and Cost. ■ Our objectives: Explain choices given unlimited wants in the face of limited resources. Develop a theory that helps us understand what we observe in the world.
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■ Our objectives:
Explain choices given unlimited wants in the face of limited resources.
Develop a theory that helps us understand what we observe in the world.
The cost of any choice is the best opportunity not taken (sacrificed). Hence we say “opportunity cost.” This can only be known by the individual decision maker. Costs are subjective.
When we measure costs, opportunity cost is the true measure, but we mostly focus on accounting or objective costs.
Remember: Costs are never fully known because some are subjective.
p. 33, “The Science of Success”
■ Holding other relevant factors constant, the higher (lower) the price of a good, the greater (smaller) will be the quantity supplied.
▪ Like all scientific propositions, it is a ceteris paribus (“other things equal”) statement
■ Note the terminology:
- changes in the price of the good lead to changes in “quantity supplied”
- they do not lead to changes in “supply”
■ The principle of Rising Marginal Cost
► As the rate of production rises in a certain time period, given fixed inputs and technology, at some point the marginal cost of producing the next unit rises
► So, in a market, supply usually reflects the marginal cost (MC) of suppliers as they evaluate their alternatives.
Holding all else constant, the following is true if we survey a group of possible workers:
Number of VolunteersPrice Offered
MARGINALCOST = SUPPLY
1 2 3 4 5 Volunteers per time period
■ S = f (P, I, T, etc.)
Price of the good itself—determines the location along the supply curve
■ Other factors—determine the placement of the supply curve:
► Prices of inputs (also called “factor prices”)
► Technology (e.g, state of knowledge; regulations)
► Other variables particular to each good, including weather conditions, etc.
It represents the valuations of many different existing and potential suppliers in a market, each making their own decision.
What is best for me, as I see the world?
As I understand my opportunity costs.
A simple curve to help us sharpen our thinking about markets.
Caused by: Lower Factor Prices, model to understand
Improvements in Technology; other
changes that lower marginal
costs of production.
Not caused by
Change in price
In 1998, DVD players cost almost $1,000. Only a few were sold.
Now DVD players cost as little as $30.
Why can suppliers provide them at such a lower cost?
What else impacted decision to supply and the demand?
Consider a music CD that retails for $15.99:
24% ($3.83) is retail overhead.
18% ($2.88) is overhead for the label
15% ($2.40) is marketing
11% ($1.76) is label accounting profit
10% ($1.60) is artist royalty
6% ($0.96) is distribution cost
5% ($0.80) is retail accounting profit; 5% manufacturing;
5% publishing accounting royalties
What does the consumer want?
Any wonder this industry is in turmoil?
The Associate by John Grisham, $27.95 list:
$3.55, editors, graphic designer, etc.
$2.83, printing costs
$4.19, author royalties (high because star author)
$12.58, retailer (45% of list); often discounted
Room for change? Typical best seller author gets 20%;
Amazon offering 45-50%; if self-publish, 75%
Cost of Heart Bypass Operation:
U.S.: $130,000 Singapore: $18,500 India: $10,000
Cost of a Hip Replacement:
U.S.: $43,000 Thailand: $12,000 India: $9,000
Number of “Medical Tourists” to Thailand: 2000: 500,000 2010: 2,000,000
(33% from U.S.; 29% from China; 18% from Japan; 14% from England)