The market supply represents the total quantity of goods or services that producers are willing to supply at a specific price and time. That is the sum of all individual producer supply.
How to determine the market supply
We calculate market supply by adding individual supply from all companies in the market. Likewise, to determine its function, we add up the own supply function of each producer. If there are ten producers in the market, and each produces 100 units of output, then the total supply in the market is equal to 1000 units.
Just like calculating the market demand function, we calculate the market supply function of a product by aggregating the quantities supplied by each company. Say, the quantity function supplied by individual producers is Qs = -100 + 200P, and there are ten companies in the market. Then the market demand function in this case is Qs = 10 (-100 + 200P) = -1000 + 2000P.
The fundamental law of supply is that when the price of a product rises, the quantity supplied by each producer increases, so that supply also increases.
Market supply curve
The market supply curve shows us how the quantity supplied changes when the product’s price rises or falls. An upward sloping curve illustrates the positive relationship between the price and the quantity supplied.
The higher the price, the greater the quantity supplied. Conversely, the lower the price, the smaller the quantity supplied.
Factors affecting market supply
The main determining price of the supply. Economists use price variables to build supply function and explain supply behavior when the product’s price changes.
When the price changes, the quantity supplied varies along the curve. Meanwhile, changes in non-own-price determinants shift the curve and affect the quantity. Examples of non-own-price determinants are the number of producers, technology, cost of inputs (raw materials and wages), level of competition, government subsidies, taxes, business expectations over the future price and its profit, and government regulations.
The total supply in the market positively correlates with the number of producers. That means supply of market increases when the number of producers increases.
Changes in production costs and production technology affect supply. Also, supply shocks such as natural disasters contribute to changes in market supply.
Production costs may change due to factors such as:
- Input and energy prices. A rise in input prices increases the cost of production, disincentivizing producers to produce.
- New technology. More sophisticated technology increases productivity, allowing producers to produce more output with the same input.
- Business tax. Higher taxes increase costs and reduce profits. That affects how much the company desires to supply.
- Government subsidies. Production subsidies have the opposite effect of tax producers.
- Transportation costs. Rising oil prices and inadequate infrastructure cause expensive transportation costs, reducing profits and disincentives for producers to produce.
- Government regulation. Some regulations have cost consequences, such as regulations on waste, work safety, and product health requirements.
Producer expectations also play an essential role in production decisions. When producers expect prices to fall, they will implement efficiency measures and reduce production. They try to maximize sales from inventory in the warehouse.
Finally, the price of substitute products also plays a role in influencing supply. The increase in the price of substitute goods encourages producers to increase output. They expect the price increase would help consumers to switch to their products, spurring demand.