The Definition of Supply in Economics
What Is Supply?
Supply in economics is defined as the total amount of a given product or service a supplier offers to consumers at a given period and a given price level. It is usually determined by market movement. For instance, a higher demand may push a supplier to increase supply.
Understanding Supply in Economics
Ideally, supply and demand would be equal. Assuming all factors are constant, under the law of supply, the demand for more units of a product gives the supplier a positive indication to increase their supplies. In turn, this could lead to higher prices.
Actual patterns may vary across products and services. Several factors affect the supply and demand pattern, including changes in manufacturing costs, consumer preferences, government subsidies, and extreme weather.
Talking about supply in economics requires you to have an understanding of the concept of demand as well. Demand represents the desire or willingness of consumers to buy a certain product or service.
These two components affect each other. They are equally important for the economy as they play a huge role in determining prices, amount consumed and the quantity to produce.
The supply and demand pattern can be characterized by curves.
Basically, you have to examine the maximum number consumers would potentially buy at various price levels. This will get you the demand curve. The vertical axis represents the price and the horizontal axis is based on quantity. The demand curve is typically downward-sloping.
The supply curve reflects the number of products supplied at various price levels. Suppliers can decide whether to increase or decrease supply based on how much they expect to charge for the product. The supply curve is often upward-sloping.
At one point, the two curves intersect. That is when the supply and demand are equal, which means prices are at equilibrium. There is no supply excess or shortage. Therefore, there is no need to increase or decrease product prices.
Let's take cereal boxes as examples. The equilibrium price is $4, where the quantity supplied and the quantity demanded are equal at a quantity of 25. At equilibrium, there is no pressure for decreases and increases in the price. It means that the number of items the consumers want to purchase is the same as the number of items the seller is selling.
If the price is lower than the equilibrium price of $4, the quantity demanded is higher and the quantity supplied is lower. When the demand is high, sellers have pressure to raise the price because there is a limited supply and they want to maximize their profits.
Now, if the price is higher than the equilibrium price, the quantity supplied is higher and the quantity demanded is lower. When supply is high, sellers have pressure to decrease their prices because demand is low.
Examples of Supply
Supply is more than just an economic concept. In fact, it has real-world effects across the globe and across socio-economic spectrums. Below are some events showcasing the impact of supply.
Global Semiconductor Chip Shortage
The world is seeing a shortage in semiconductors, which is estimated to cause a $210 billion worth of lost revenue. Because of this, 7.7 million units of production are expected to be lost in 2021.
Although consumer demand remained resilient, the shortage in the supply of semiconductors led to declining vehicle inventories. In turn, car prices have increased. In comparison, the personal consumption expenditure (PCE) price index has increased, from -0.5% in April 2020 to 3.6% in May 2021.
For instance, the graph below shows the estimated number of cars by model that carmakers canceled production due to the microchip shortage.
Oil Price Drop
The world saw a drop in petroleum prices in 2014. It started in mid-June and continued through the end of January 2015. From $107.95 per barrel on June 20, 2014, prices saw a 59.2% drop and plunged to $44.08 per barrel on Jan. 28, 2015. Because of this, the price of petroleum imports into the U.S. also dropped significantly.
Based on the study conducted by the Bureau of Labor Statistics, the cause for the decline in prices was an oversupply of petroleum. Supply has increased worldwide. Additionally, there was lower demand starting in May 2014.
Amazon’s Supply Chain
Concept: Supply Chain
Supply chain management is an important part of running a business. Amazon is a great example of this. Compared to other delivery services companies, Amazon has a more complicated process. However, it helps simplify the customer experience.
For instance, packages directly fulfilled by Amazon are sorted in fulfillment centers. Amazon uses predictive modeling wherein they stock items in an area based on demand by consumers.
For example, a fulfillment center in the Midwest would ship to someone in Missouri, and another fulfillment center located in Reno would ship to someone in San Francisco. A state could have multiple fulfillment centers. They allow for fast delivery services for consumers.
In addition, depending on the type and size of items and delivery service, packages may go directly to a third-party service provider who will deliver to the final destination. Other items are forwarded to regional sortation centers before being delivered.
Economic Concepts Related to Supply
There are various concepts related to supply. Knowing what they are can help you better understand what supply is and its importance in the economy.
- Law of Supply and Demand: This economic theory explains the relationship of supply and demand. It shows the interaction between sellers and consumers and how they determine product prices. It states that the price of a certain product or service is based on the point of intersection of the supply curve and demand curve or when the two factors are at equilibrium. Understanding this concept will give you an idea of what factors affect product prices and the availability of resources.
- Demand: Demand is based on the willingness and desire of consumers to buy a product or service at a given price. Consumer behavior affects the production of goods as demand is a factor of consumer behavior. That means companies can predict demand based on consumer behavior. However, demand can also be influenced by prices. While companies tend to increase supply along with higher prices, increasing the cost of a product may lead to lower demand.
- Supply Curve: The supply curve represents the relationship of the price of a product or service and the amount of supply for a certain period. The vertical axis on the left provides the price, while the horizontal axis shows the quantity. The curve typically moves upward from left to right. That showcases the law of supply. As the price increases so does the quantity of supply as long as all other factors remain equal.
- Demand Curve: The graph shows how the price of goods or services interact with the amount of consumer demand for a certain period. Similar to the supply curve, it includes vertical and horizontal axes. However, in this situation, the horizontal axis represents the quantity of product or service demanded. Unlike the supply curve, the demand curve moves downward from left to right. That showcases the law of demand, wherein the demand decreases as the price increases.
- Equilibrium: Economic equilibrium refers to the point wherein the supply and demand are balanced. The supply curve is upward-sloping from left to right. Meanwhile, the demand curve is downward-sloping. At one point, these two curves will intersect. That is the price wherein equilibrium is achieved. It indicates that at that price level, there is neither excess nor shortage of supply.
- Supply Chain: The supply chain is the network between a company and supplier. It focuses on the production and distribution of a certain product. It includes the necessary steps to bring a product or service to the consumers, including movement and transformation of raw materials into goods, transportation of finished products and distribution to the user. There are also multiple entities involved, such as the retailers or sellers, distribution centers, warehouses, vendors, producers and transportation companies.
- Monopoly: Monopoly is a type of market wherein there are many buyers but only one seller. The seller is called the monopolist. Because of the lack of competition, the monopolist has the ability to control market price for a certain product or service. That means the monopolist can adjust the price to gain maximum profit without worrying about other sellers. At the same time, they can also control the amount of product available to consumers.
- Competition: Competition happens when there are multiple sellers and buyers in a market, which helps keep low prices. Since consumers have many options, the companies compete to offer the best prices and provide the most value. Prices remain affordable for the buyers. Having a healthy amount of competition prevents one company from exploiting prices. Competition affects the level of barrier entry for businesses, prices of goods and business profits.
- Scarcity: Resources can be limited and finite. In some cases, that is enough to meet market demand. However, there are instances when there is a gap between the available resources and the demand for the good. The scarcity principle states that the price of a product increases when there is high demand but low supply. Because of this, consumers only buy if they see a greater benefit from having the product than the money necessary to obtain it.
- Oversupply: Oversupply, which is also known as surplus, is when the amount of product available in the market is more than the consumer demand. There are various reasons why oversupply happens. Here are the most common:
— Consumers are waiting for a better and improved model.
— The price is too high and people won’t purchase at that cost point.
— The producer has misread the demand for the product.
- Supply-Side Economics: Supply-side economics is a theory that claims that increasing production will drive economic growth. Also known as Reaganomics and trickle-down policy, supply-side economics focuses on providing a better business climate. It advocates incentives to businesses by giving tax cuts and deregulation so that they can expand. This drives economic growth. Supply-side economics is composed of three pillars. These are the tax policy, regulatory policy and monetary policy. It was put into practice by President Ronald Reagan in the 1980s.
- Elasticity: Elasticity refers to the ratio of percentage change in quantity over the percentage change in price. There are two kinds — price elasticity of supply and price elasticity of demand. The supply or demand is elastic if the answer is greater than one. If the result is less than one, then it is inelastic. Getting a ratio of one means there is proportional responsiveness and the elasticity is unitary. Examples of perfect elastic items are luxury goods, such as diamonds. Examples of perfect inelastic items include essential medicine.
Elasticity can be calculated as:
5 Types of Supply
Supply refers to different things depending on the market, consumers and the situation. Here are some of the most common types of supply you may encounter:
This type of supply refers to the ability of a consumer to buy a product based only on its availability. That means that consumers cannot buy more than the number of products a seller can offer at a given period.
This type of supply focuses on availability of time. Long-term supplies are those that a supplier can easily adjust when there is a shift on the demand. That is because there is sufficient time to meet market demand. That means the supplier can either increase or decrease production depending on consumer actions and market requirements.
Market supply is also known as day-to-day supply or daily supply. It refers to the ability of suppliers to provide the products on a daily basis. Examples of this are fish, wheat, milk and vegetables, among others. This type of supply is determined by the availability of goods and not on demand.
There are products produced or supplied jointly. It happens when there is a main product and by-product, which is also known as a consequential supply. A good example of this is lamb production. An increase in farming lambs will increase the supply of meat and wool.
Composite supply refers to the type of supply made up of two or more products or services bundled together. They cannot be supplied separately, so they are being sold as a combination. These can be products, services or a combination of the two.
Supply is a vital aspect of the economy. MoneyGeek interviewed an industry leader and an academic to provide expert insight and help you better understand the role of supply in economics.
- What is the most important thing one should know about supply in economics?
- What is the best way for individuals to understand supply and how it impacts the economy?
- Do you have any tips to help make a better supply chain and address disruptions?
Associate Professor of Management at Farmer School of Business, Miami University
Professor of Economics
Assistant Professor of Operations and Supply Chain Management at the School of Business, University of Indianapolis
Former Business Litigation Attorney, Retired Economics & Humanities Teacher and Author
Professor Emeritus of Economics at Niagara University
About Nathan Paulus
- AlixPartners. "Shortages Related To Semiconductors To Cost The Auto Industry $210 Billion In Revenue This Year, Says New AlixPartners Forecast." Accessed December 1, 2021.
- Bureau of Labor Statistics. "The 2014 plunge in import petroleum prices: What happened?." Accessed December 1, 2021.
- Federal Reserve Bank of Cleveland. "Semiconductor Shortages and Vehicle Production and Prices." Accessed December 1, 2021.
- Statista, Automotive News via Car and Driver. "The U.S. Car Models Most Impacted By The Microchip Shortage." Accessed December 1, 2021.
- Syracuse University. "At Amazon, Supply Chain Innovations Deliver Results." Accessed December 28, 2021.