Econ basics for noobs : Supply and Demand (Part-I)
I was having a hard time understanding the basics of economics when I first tried to venture into its vast universe. I know, that to some of us Economics can seem to be daunting and may seem like all numbers and charts, but in actuality I have found out that economics is as fascinating a subject as Physics or Mathematics. The tutorials that I found online were quite awesome but sometimes it was a tad bit daunting due to its fast pace or use of too many jargons that I had to then google further to get a better clarity. So, I thought about writing a series of articles to help someone like me whose just interested in this subject but has no clue about its array of jargons. I have tried to dumb down the concepts as much as I could and to the farthest of my understanding of the same topic too.
Supply and demand is the cornerstone of why markets work which in turn forms a significant part of economics. I will be tackling just the supply part in this article and take up demand in the next article. Supply refers to the amount of goods supplied by a manufacturer to be consumed by the user. Easy enough? Not so? Umm… let’s take up an example :
Consider a world where there exists a market with no cotton fabric in it. Now, you come along and start manufacturing cotton. So, now the amount of cotton fabric that you manufacture is the amount of cotton that is available in the market i.e. you are the lone supplier of cotton in the market. You control the supply of cotton in the market.
Law of Supply : It states that there is direct relationship between the amount supplied and the price in the market.
Again let’s build up on the same example that we considered before. You usually sell cotton at $1/m. But you see that people are suddenly willing to pay more than the said $1/m because of the popularity of the product and the market price goes to $3/m. So, naturally you would choose to produce more because duh….more price equals more profit (not always but for now let’s assume that). So if the popularity keeps growing and the price is on a steady trot towards $10/m you will naturally be putting in more hours to produce more out of your manufacturing unit. So, if you look at the graph provided below you can clearly see the direct relationship I was talking about while stating the law.
A critical point to be noted at this point is that the change in price is the only driving factor when we are considering the quantity of cotton produced by the manufacturer. When the price is up the manufacturer has more incentive to make more so supply in the market increases.
So, what happens if for some reason you want to manipulate the price of cotton in the market by the quantity you produce or some other factor? For example your cost of production of 1000m of cotton fabric was $500 and then you come across a machine that reduces the production cost of 1000m of cotton fabric to $250, so naturally you would be making more profit even if you sell at the same price i.e. $1/m. Since now you are gaining more profit so naturally you would tend to produce more of it to maximise your profits. This in turn is going to increase the supply of cotton fabric in the market while the price of cotton remains exactly the same in the market for your consumers.
If you look at the graphical consequences of this increase in supply, the graph will surely shift to the right and consequently a decrease in supply will cause the graph to shift to the left. Refer to the graph for better clarity.
Now let’s look at the factors that may cause this shift in the graph that is things that can affect the overall supply in the market. Some of these will seem pretty obvious to you.
Price of Resources : If the price of the cotton seeds go up and at the same time the price of wool is pretty low. You are surely going to consider slowing down the cotton production and start out with making some wool since wool is cheaper to buy for you and thus in turn gives more profit. This is going to decrease the supply of cotton in the market and increase the supply of wool in the market.
Number of Producers : Now if along with you, I also enter the market and start manufacturing cotton. Then it is very easy to guess that the quantity of cotton in the market is going to increase.
Technology : Surely you coming across a magical machine that can churn out thousands of meters of yarn in minutes is going to increase the amount you produce and thus in turn increase the supply of cotton fabric in the market.
Taxes and Subsidies : You have started making quite some profits and like every citizen loving government, they notice it and choose to levy tax on your income. And if its some atrocious dictator who chooses to levy heavy taxes on just cotton, then maybe you will reconsider becoming a hermit. With you gone from the market the supply is definitely going to decrease. Now the government is out of cotton so they go to the mountains to convince you to come back and start producing cotton again. They try to entice you by willing to give you subsidies (reduced tax maybe), so you come back and start manufacturing cotton again and the supply increases again.
Expectations : The government is planning to introduce to tax changes and introduce some subsidies in the coming months. You expect that more subsidies are going to be introduced for the cotton market, so you may choose to slow down the cotton production till the bills are passed so that you can take advantages if the subsidies are introduced. This is going to reduce the supply in the market till the bills are passed.
Hope you all found this interesting and easy to understand. I would really appreciate your support. Your support will motivate me to write more articles like this so maybe leave a clap and share it if you found this piece of article useful. I will soon release the demand part of this series. Till then Cheers!