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132 UNIT 2 THE MARKET ECONOMY

CHAPTER OVERVIEW

LESSON 5.1 The Supply Curve This lesson introduces and defi nes the supply curve. A description of elasticity of supply is provided along with an explanation of how it is measured.

LESSON 5.2 Shifts of the Supply Curve The focus of this lesson is the identifi cation of the determinants of supply and how changes aff ect the supply curve. This lesson also contrasts move-ment along the supply curve with a shift of the supply curve.

LESSON 5.3 Production and Cost This lesson includes explana-tions of how marginal product varies as a fi rm employs more labor in the short run and the shape of the fi rm’s marginal cost curve. Economies of scale are distinguished from disec-onomies of scale in the long run.

C O N S I D E RAsk students to consider the ques-tions posed on this page as they study Chapter 5. After studying all three lessons, students should be able to answer the questions. The content related to each question can be found on the pages indi-cated below.• Why would a fi rm decide to store

its products in a warehouse rather than off er them for sale? See page 146—Change in Producer Expectations.

• When might hiring another worker actually reduce a fi rm’s output? See page 151—Law of Diminishing Returns.

• Can a fi rm shut down without going out of business? See page 155—Maximizing Profi t and Minimizing Loss.

• Why do movie theaters have so many screens? See page 157—Diseconomies of Scale.

• Why is bigger not always better when it comes to the size of a fi rm? See page 157— Diseconomies of Scale.

Teaching Resources• Instructor’s Resource CD• Activities and Projects Masters• Spanish Resources• ExamView® CD• Workbook Instructor’s Edition• Chapter Test Instructor’s Edition• CEE Standards and Correlations• Personal Finance Activities• The Teaching Economist

Student Resources• www.cengage.com/school/contecon

– Ask the Expert– Crossword Puzzle– Economics e-Collection– Flashcards– Graphing Workshop

• Workbook


CONSIDER ...

5 Why would a fi rm decide to store its products in a warehouse rather than off er them for sale?

5 When might hiring another worker actually reduce a fi rm’s output?

5 Can a fi rm shut down without going out of business?

5 Why do movie theaters have so many screens?

5 Why is bigger not always better when it comes to the size of a fi rm?

CHAPTER 5

Supply5.1 The Supply Curve

5.2 Shifts of the Supply Curve

5.3 Production and Cost

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Chapter 5 S u p p l y 133

Chapter 5 S u p p ly 133

5.1 T H E S U P P LY C U R V E

Learning Objectives

L 1 Explain the law of supply.

L 2 Describe the elasticity of supply, and explain how it is measured.

In Your WorldJust as consumer behavior shapes the demand curve, producer behavior shapes the supply curve. When studying demand, you should think like a consumer, or a demander. When studying supply, however, you must think like a producer, or a supplier. You may feel more natural as a consumer—after all, you are one. But you know more about producers than you may realize. Either online or in person, you have been around them all your life—Walmart, Subway, Best Buy, Exxon, McDonald’s, Microsoft, Apple, KFC, Pizza Hut, Ford, Home Depot, Target, Gap, Google, Facebook, local businesses, and thousands more. You will draw on your knowledge to develop an understanding of supply and the supply curve.

Key Termssupply 134

law of supply 134

supply curve 134

elasticity of supply 138

LAW OF SUPPLYWith demand, the assumption is that consumers try to maximize utility, the incentive that motivates their behavior. With supply, the assumption is that producers try to maximize profi t. Profi t is the incentive that motivates the behavior of suppliers.

Role of Profi tA fi rm tries to earn a profi t by transforming resources into products. Profi t

equals total revenue minus total cost. Recall that total revenue equals the price times the quantity sold at that price. Total cost includes the cost of all resources used by a fi rm in producing goods or services, including the entrepreneur’s opportunity cost.

Profi t = Total revenue − Total cost

When total revenue just covers total cost, a fi rm breaks even. Over time, total revenue must cover total cost for the fi rm to survive. If total revenue falls short of total cost year after year, the fi rm will fail.

Each year, millions of new fi rms enter the U.S. marketplace and nearly as many leave. Most of the more than 30 million profi t-seeking fi rms in the United States consist of just an owner-operator, such as a plumber or an accountant, with no hired employees. And, as you can see from the Figure 5.1 on page 134, among fi rms that have employees, more fi rms may close their doors than enter the market in a given year. Firms must decide what goods and services to produce and what

L 1Explain

the law

of supply.

F O C U S

5.1 THE SUPPLY CURVE

Explain that this lesson investigates the relationship between prices and the quantity of goods or services businesses are willing to off er for sale. One of the relationships considered is how businesses react to changes in the price they are able to charge. Tell students to imagine they are earning money for a class trip by selling candy bars at football games. Ask them how they would react if they discovered they could sell their candy for $1.50 per bar instead of the $1.00 price they had been charging. Would they work to sell even more candy than they had in the past? How would they decide how much candy to off er for sale?

ObjectivesTo help focus their attention, remind students to read the lesson objec-tives before reading the lesson.

Key Ter msDirect students to look up key terms in a business or economics dictionary. Some students will fi nd it helpful to read another defi nition. In addition to a defi nition, many entries will include a brief explana-tion and an example.

In Your WorldTo introduce the lesson, hold up a yearbook or a school newspaper before the class. Tell students that most of them have been, or will be, a consumer of those goods. Point out that some students in the class also might be producers of these goods. Ask the students if they can think of any other goods or services connected with the school for which some students act as producers or suppliers. (Possible answers: class and organization fund raising, event ticket sales)

Buck Institute Project Based EconomicsThe PBE “High School Food Court” activity ties in with the concepts of supply, the law of supply, and the supply curve in Lesson 5.1.

Council on Economic Education VoluntaryNational Content Standards in EconomicsA complete list of the CEE Standards appears on pages xx–xxi of this book. The following standards are addressed in Lesson 5.1.

Standard 1 Scarcity

Standard 2 Decision Making

Standard 4 Incentives

Standard 7 Markets and Prices

Standard 8 Role of Prices

Standard 14 Entrepreneurship


Learning Through GraphicsDirect students to focus their attention on Figure 5.1—Starts and Closures of Employer Firms, 2005–2009. Point out to students that in a growing economy, when supply increases suppliers often expand or create new fi rms to meet the demand. However, in a weak economy, a decrease in supply may result in the closing or bankruptcy of fi rms. This is illustrated in Figure 5.1. Note that from 2005 through 2007 when the economy was strong, the opening of new fi rms was much higher than the next two years during which the economy was weaker. At the same time, closures and bankruptcies were fewer during the fi rst three years than the last two. UNIT 2 THE MARKET ECONOMY

resources to employ. Firms must make plans while facing uncertainty about consumer demand, resource availability, and the intentions of other fi rms in the market. Despite the uncertainties, the profi t incentive is strong enough to moti-vate entrepreneurs to pursue their dreams.

SupplyJust as demand is a relation between price and quantity demanded, supply is a

relation between price and quantity supplied. Supply indicates how much of a good producers are willing and able to off er for sale per period at each price, other things constant. Th e law of supply says that the quantity supplied is usually directly, or positively, related to its price, other things constant. Th us, the lower the price, the smaller the quantity supplied. Th e higher the price, the greater the quantity supplied.

Figure 5.2 presents the market supply schedule and market supply curve S for pizza. A supply curve shows the quantities of a particular good supplied at various prices during a given time period, other things constant. Both show the quantities of 12-inch pizzas supplied per week at various prices by the many pizza makers in the market. As you can see, price and quantity supplied are directly related, other things constant. Th e supply curve shows, for example, that at a price of $6 per pizza, the quantity supplied is 16 million per week. At a price of $9, the quantity supplied increases to 20 million.

supply A relation showingthe quantities of a goodproducers are willing and ableto sell at various prices during a given period, other thingsconstant

law of supply The quan-tity of a good supplied during a given time period is usually directly related to its price, other things constant

supply curve A curve, or line, showing the quantitiesof a particular good suppliedat various prices during agiven time period, otherthings constant

FIGURE 5.1 Starts and Closures of Employer Firms, 2005–2009* In the U.S. economy, the supply of goods and services is constantly changing. This is refl ected

by the number of fi rms which start, close, or go bankrupt in a year.

Source: U.S. Dept. of Commerce, Census Bureau, Administrative Offi ce of the U.S. Courts, U.S. Dept. of Labour, Business Employment Dynamics (BED).*Estimates based on Census data and BED trends

134

Outside ResourcesTelephone Directory The business pages of the telephone book can be used to start discussions about sup-ply. Assign students to count the number of pizza or Asian restaurants that are listed in their local Yellow Pages. Compare this total with the number of restaurants that off er fi ne French cuisine. Which type of restaurant is likely to serve more meals per day? Why are there fewer French restaurants? Do students think that the supply of meals served by French restaurants is elastic or inelastic? What about pizza restaurants? Do they think a new French restaurant would be more or less successful than a new pizza restaurant? Why?

T E A C HLaw of SupplyHold up an empty soft drink can. Tell students to imagine that there is a fi ve-cent deposit on these containers and that they are trying to earn mon-ey by collecting them and returning (supplying) them to a grocery store. Lead the class in a discussion of how many students would work to collect containers and how many contain-ers they think they could collect. Then ask them the same questions, assuming that the deposit value was 10 cents, 25 cents, and 50 cents. Construct a table on the board that relates the deposit value (price) to the number of containers that would be collected (supplied). Students should notice that as the deposit value increases, the number of stu-dents who choose to participate and the quantity of containers collected also grow.


Learning Through GraphicsUse Figure 5.2—The Supply Sched-ule and Supply Curve for Pizza to illustrate the law of supply.

T E A C HLaw of Supply (continued)Revisit the candy bar example introduced on page 133 in these teaching notes. Tell students that while they were able to increase the price of the candy they sold to $1.50, the amount they had to pay for the bars also increased, from $.75 to $1.25. At the same time, they could have sold slices of pizza for $1.00 that cost them $.50 each. How might these facts alter the number of candy bars they supply? Why might they decide to off er slices of pizza for sale instead of candy? Lead this discussion into an explanation of the relationship between profi t and supply. The fact that the profi t earned per slice of pizza is greater than that which is earned from candy bars will encour-age students to supply pizza instead of candy. Point out that producers allocate scarce resources to the type of production that promises the greatest total profi t.E N R I C H

Tell students that a popular author is coming to the local library to autograph her most recent novel. She will do this for only one hour, but she will do it for free. Discuss why this author might autograph books for a longer time if she felt she could charge $5 per autograph. How does this situation demonstrate the law of supply? Do the students think it makes a diff erence in the time she spent if she charged $5 per autograph and the money went to the library? Do the students think it would make a diff erence if she signed at a local bookstore for free but only would sign books purchased that day at the store? Why or why not?


Like the demand curve, the supply curve refl ects a particular period of time. It shows quantity supplied per period. For any supply curve, it is assumed that the prices of other goods the business could produce using these same resources remain unchanged. Th us, along the supply curve for pizza, the price of pizza changes relative to other prices, which do not change. Th e supply curve shows the eff ect of a change in the relative price of pizza—that is, relative to the prices of other goods the resources could supply. Producers have a profi t incentive to sup-ply more pizza at a higher price than at a lower price, so the supply curve slopes upward, from left to right.

More Willing to SupplyProducers off er more for sale when the price rises for two reasons. First, as

the price increases, other things constant, a producer becomes more willing to supply the good. Prices act as signals to existing and potential suppliers about the rewards for producing various goods. An increase in the price of pizza, with other prices remaining constant, creates a profi t incentive to shift some resources out of producing other goods, whose prices are now relatively lower, and into pizza, whose price is now relatively higher. A higher pizza price makes supplying pizza more profi table and attracts resources from lower-valued uses.

More Able to SupplyHigher prices also increase the producer’s ability to supply the good. Th e cost

of producing an additional unit of a good usually rises as output increases—that is, the marginal cost of production increases as output increases. (You will learn more about marginal cost in Lesson 5.3.) Because suppliers face a higher marginal

(A) SUPPLY SCHEDULE

Quantity supplied per week(millions)

Priceperpizza

$1512

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3

28242016

12

(B) SUPPLY CURVE

12 16 20 24 280

3

6

9

12

$15

Millions of pizzas per week

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S

FIGURE 5.2 Supply Schedule and Supply Curve for PizzaMarket supply curve S shows the quantity of pizza supplied, at various prices, by all pizza makers.

Direct students to the Graphing Workshop for Unit 2A, or consider using the presentation as a teaching tool in class. Watch and listen to an explanation of a supply schedule and a supply curve.www.cengage.com/school/ contecon


ESSENTIAL QUESTION CEE Standard 4: IncentivesUse this feature to reinforce under-standing of this standard.

AnswerDirect students to look carefully at the photo on the page. Ask one stu-dent to answer the question, “How does a producer respond when the price of its product increases?” (When the price of a product increases, the producer usually is will-ing and able to increase the quantity it will supply.)

UNIT 2 THE MARKET ECONOMY136

cost of producing the good, they need to get a higher price to be able to increase the quantity supplied. A higher price makes producers more able to increase quantity supplied.

For example, a higher price for gasoline in recent decades increased producers’ ability to search for oil in less-accessible areas, such as the remote jungles of the Amazon, the oil-sands of the Canadian West, the stormy waters of the North Sea, and the frozen tundra above the Arctic Circle. Th us, the quantity of oil supplied increased as the price increased. On the other hand, gold prices fell by more than half between 1980 and 2000, so producers were no longer able to mine gold in less-accessible regions or where the ore contained less gold. As the price declined, the quantity supplied decreased. A rebound in gold prices since 2000, however, has revived gold production around the world, increasing the quantity supplied.

In short, a higher price makes producers more willing and more able to increase quantity supplied. Suppliers are more willing because production of the higher-priced good now is more profi table than the other uses of the resources. Suppliers are more able because the higher price allows them to cover the higher marginal cost that typically results from increasing production.

Supply Versus Quantity SuppliedAs with demand, economists distinguish between supply and quantity sup-

plied. Supply is the entire relation between the price and quantity supplied, as shown by the supply schedule or supply curve. Quantity supplied refers to the amount off ered for sale at a specifi c price, as shown by a point on a given sup-ply curve. Th us, it is the quantity supplied that increases with a higher price, not supply. Th e term supply by itself refers to the entire supply schedule or supply curve.

How does a producer respond when the price of its product increases?

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ESSENTIAL QUESTIONStandard CEE 4: Incentives People usually respond predictably to positive and negative incentives.

T E A C HLaw of Supply (continued)Extend the pizza sales example by explaining that the reason the class was not able to sell even more pizza was because they had rented a very small booth for $50 per game. In this limited space, there was not enough room to serve more than two customers at a time. Ask students how they would react if a larger booth became available at twice the cost but would allow them to serve four customers at a time. Would they agree to pay this higher cost? If they did rent the larger booth, what would happen to their ability to supply pizza? What other steps would the students need to take to increase the quan-tity of pizza they supply? Required steps might include recruiting more students to serve customers and buying more pizza to resell.


Learning Through GraphicsDirect students to focus their attention on Figure 5.3—Summing Individual Supply Curves to Find the Market Supply Curve. Point out that the market supply curve shown on the graphs at the far right is the horizontal sum of each individual supply curve.

T E A C HLaw of Supply (continued)Point out to that the U.S. market for automobiles is the entire country. Next, draw a supply curve on the board telling them that it represents the supply of automobiles of a local car dealer. Ask them if this refl ects the market for automobiles in the United States. If not, what informa-tion would be needed to draw a supply curve that refl ects that?

ECONOMIC HEADLINESInstruct students to locate an article in a newspaper or newsmagazine about some aspect of supply. For example, they might fi nd an article about a hot fashion trend, a wildly popular video game, or a once-in-a-lifetime concert event. Instruct them to write a paragraph summarizing the article and drawing a connection to this lesson. Encourage the use of graphs to help present the ideas.


Individual Supply and Market SupplyEconomists also distinguish between individual supply (the supply from an

individual producer) and market supply (the supply from all producers in the market for that good). Th e market supply curve shows the total quantities supplied by all producers at various prices.

In most markets, there are many suppliers, sometimes thousands. Assume for simplicity, however, that there are just two suppliers in the market for pizza: Pizza Palace and Pizza Castle. Figure 5.3 shows how the supply curves of two producers in the pizza market are added together to yield the market supply curve for pizza. Individual supply curves are summed across to get a market supply curve.

For example, at a price of $9, Pizza Palace supplies 400 pizzas per week and Pizza Castle supplies 300. Th us, the quantity supplied in the market for pizza at a price of $9 is 700. At a price of $12, Pizza Palace supplies 500 and Pizza Castle supplies 400, for a market quantity of 900 pizzas per week. Th e market supply curve in panel (C) of Figure 5.3 shows the horizontal sums of the individual sup-ply curves in panels (A) and (B).

Th e market supply curve is simply the horizontal sum of the individual supply curves for all producers in the market. Unless otherwise noted, when this book talks about supply, you can take that to mean market supply.

FIGURE 5.3 Summing Individual Supply Curves to Find the Market Supply Curve

The market supply curve is the horizontal sum of all individual supply curves.

(A) PIZZA PALACE (B) PIZZA CASTLE (C) MARKET SUPPLY

sc sp + sc = S

400 500 0

Pizzas per week Pizzas per week Pizzas per week

Pric

e

400 300 700 900

9

$12

9

$12

9

$12

sp

Explain the law of supply in your own words.

AnswerPossible answer: Quantity supplied is directly related to price. The lower the price, the less supplied. The higher the price, the more supplied.


Learning Through GraphicsUse Figure 5.4—The Supply of Pizza to illustrate elasticity of supply.

T E A C HElasticity of SupplyReturn to the soft-drink con-tainer example given on page 134. Remind students that when the deposit value was increased from 5 cents to 10 cents per container, the number of containers that would be collected increased, dem-onstrating the law of supply. Point out that this increase in the price of the returned containers was 100 percent ($.10 – $.05 = $.05, $.05 / $.05 = 1.0 = 100%). Calculate the percentage increase in the number of containers supplied as a result of this price increase by dividing the increase in the number col-lected at a price of 10 cents by the number collected at 5 cents. If the percentage change in the number of containers collected was greater than 100 percent, the supply is elas-tic. If the percentage change in the number of containers collected was less than 100 percent, the supply is inelastic. Remind students that elas-ticity measures the responsiveness of either the quantity demanded or supplied to changes in price. The elasticity of supply can be found by dividing the percentage change in price into the percentage change in the quantity supplied.

GROUP ACTIVITYOrganize students into small groups. Assign groups to calculate the market supply for hours they would be will-ing to work at an after-school job in a fast-food restaurant at diff erent wage rates. These rates might be $6, $7, $8, $9, or $10 per hour. Ask them to explain how their supply schedule demonstrates the law of supply. Is their supply of hours worked elastic or inelastic when the wage rate changes from $8 to $9 per hour? (Percent change in hours worked divided by percentage change in price of their labor (12.5%) = elasticity of supply)

UNIT 2 THE MARKET ECONOMY

ELASTICITY OF SUPPLYPrices are signals to both sides of the market about the rela-tive scarcity of products. High prices discourage consumption but encourage production. Low prices encourage consumption but discourage production. Elasticity of demand measures how responsive consumers are to a price change. Likewise, elasticity of supply measures how responsive producers are to a price change.

MeasurementElasticity of supply is calculated similarly to elasticity of demand. Elasticity

of supply equals the percent change in quantity supplied divided by the percent change in price.

Elasticity of supply = Percent change in quantity supplied

Percent change in price

Suppose the price increases. Because a higher price makes production more attractive, the quantity supplied increases as the price increases.

Figure 5.4 depicts the typical upward-sloping supply curve presented earlier. As you can see, if the market price of pizza increases from $9 to $12, the quantity supplied increases from 20 million to 24 million. What is the elasticity of supply between these two points? Th e percent change in quantity supplied is the change in quantity supplied—4 million—divided by 20 million. So quantity supplied increases by 20 percent. Th e percent change in price is the change in price—$3—divided by $9, which is 33 percent.

L 2Describe the

elasticity of

supply.

elasticity of supply A measure of the responsivenessof quantity supplied to a price change; the percent change in quantity supplied divided by the percent change in price

20 24 28 0

9

12


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FIGURE 5.4 The Supply of Pizza If the market price increases from $9 to $12, the quantity of pizza

supplied increases from 20 million to 24 million per week.

138Direct students to the Graphing Workshop for Unit 2A, or consider using the presentation as a teach-ing tool in class. Watch and listen to an explanation about the elasticity of supply.www.cengage.com/school/ contecon


Learning Through GraphicsUse Figure 5.5—Market Supply Becomes More Elastic Over Time on page 140 to illustrate how the supply of gasoline becomes more elastic over time, with a diff erent supply curve for each of three periods—a week, a month, and a year.


Elasticity of supply is, therefore, the percentage increase in quantity supplied—20 percent—divided by the percentage increase in price—33 percent—which equals 0.6.

Categories of Supply ElasticityTh e terms for supply elasticity are the same as for demand elasticity. If supply

elasticity exceeds 1.0, supply is elastic. If it equals 1.0, supply is unit elastic. If sup-ply elasticity is less than 1.0, it is inelastic. Because 0.6 is less than 1.0, the supply of pizza is inelastic when the price increases from $9 to $12. Note that elasticity usually varies along a supply curve.

Determinants of Supply ElasticityElasticity of supply indicates how responsive producers are to a change in price.

Th eir response depends on how costly it is to alter output when the price changes. If the cost of supplying an additional unit rises sharply as output expands, then a higher price causes little increase in quantity supplied. In this case, supply tends to be inelastic. However, if the cost of an additional unit rises slowly as output expands, the profi t lure of a higher price prompts a relatively large boost in out-put. In this case, supply is more elastic.

One important determinant of supply elasticity is the length of the adjustment period under consideration. Just as demand becomes more elastic over time as consumers adjust to price changes, supply also becomes more elastic over time as producers adjust to price changes. Th e longer the adjustment period under con-sideration, the more easily producers can adapt to price changes. For example, a higher oil price prompts suppliers to pump more from existing wells in the short run. However, in the long run, suppliers can explore for more oil.

Figure 5.5 on page 140 demonstrates how the supply of gasoline becomes more elastic over time, with a diff erent supply curve for each of three periods of adjustment. Sw is the supply curve when the period of adjustment is a week. As you can see, a higher gasoline price generates little response in quantity supplied because fi rms have little time to adjust. Th is supply curve is inelastic between $3.00 to $3.50 per gallon.

Sm is the supply curve when the adjustment period under consideration is a month. Firms have more time to vary output. Th us, supply is more elastic when the adjustment period is a month than when it’s a week. Supply is yet more elastic when the adjustment period is a year, as is shown by Sy. A given price increase in gasoline prompts a greater quantity supplied as the adjustment period lengthens. Research confi rms the positive link between the elasticity of supply and the length of the adjustment period. Th e elasticity of supply is typically greater the longer the period of adjustment.

Th e ability to increase quantity supplied in response to a higher price diff ers across industries. For example, oil was discovered on Alaska’s North Slope in 1967, but that oil did not reach the market until a decade later. Th e long run is longer for oil and timber (where expansion may take a decade) than for window washing and hot-dog vending (where expansion may take only days).

T E A C HElasticity of Supply (continued)Begin the discussion of the “Determinants of Supply Elasticity” by listing these goods on the board:

Bananas

Donuts

Corvette

Ask the students, assuming that the price of each good increases 25 percent, which of the goods should become more elastic over a shorter period of time. (Donuts should become more elastic over a shorter period because additional units can be produced quickly.)

Which will be less elastic if the cost of transportation increases. (Bananas wil be less elastic if trans-portation costs increase because the additional costs will lower the profi t margin.)

Curriculum Connection—Foreign LanguageIn the past 20 years, the number of high schools that teach Spanish has almost doubled. In many schools, it has been relatively easy to fi nd teachers who are certifi ed to teach Spanish. What has happened to increase the sup-ply of qualifi ed Spanish teachers in the United States? If the salary for Spanish teachers fell by 30 percent, what would happen to the number of qualifi ed Spanish teachers who would be willing to teach in U.S. high schools? (There has been an infl ux of people from Spanish-speaking countries to the United States. Many of them have become certifi ed teachers.)


Think Critically Through VisualsDirect students to focus their attention on the photograph on this page. Ask for a volunteer to answer the question posed in the caption.

AnswerThe time needed to increase the supply of windows is signifi cantly longer than the time needed to increase the supply of window washers. You can extend this by ask-ing what would be their answer if the picture depicted lawyers instead of window washers.


What does the elasticity of supply measure, and what factors infl uence its numerical value?

FIGURE 5.5 Market Supply Becomes More Elastic Over Time The supply curve one week after a price increase, S

w , is less elastic, at a given

price, than the curve one month later, Sm

, which is less elastic than the curve one year later, S

y. In response to a price increase from $3.00 to $3.50, quantity

supplied per day increases to 110 million gallons after one week, to 140 million gallons after one month, and to 200 million gallons after one year.

Why do you think the “long run” is longer for a business that produces windows than it is for a business that washes windows?

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S w Sm

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100 110

AnswerThe elasticity of supply measures the responsiveness of quantity sup-plied to price change. The percent-age change in quantity supplied aff ects the elasticity of supply directly, and the percentage change in price aff ects the elasticity of sup-ply indirectly.

R E T E A C HThe supply of many agricultural products is inelastic in the short run. This is particularly true for products that are grown on trees that take many years to mature. Ask students to explain why a 25 percent increase in the price of apples would have no immediate impact on the quantity of apples supplied by local growers. As a matter of fact, the supply of apples might increase fi ve years later when the price of apples had fallen. Why is farming a risky business?

A P P LYAssign Lesson 5.1 from the Contem-porary Economics Workbook.

A S S E S SAssign all or part of Lesson 5.1 Assessment on page 141 as home-work or an in-class activity.

Study ToolsDirect students to the online study tools for Lesson 5.1.www.cengage.com/school/contecon

C L O S ERevisit the In Your World feature on the fi rst page of the lesson.Review the objectives for Lesson 5.1.


5.1 ASSESSMENT

Think Critically1. Possible answer: The owner is

motivated to maximize profi t and, other things equal, prefers a higher price. The customers are interested in maximizing their personal satisfaction and prefer a lower price.

2. Possible answer: The higher price will cause fi rms to shift resources from the production of other goods to the production of addi-tional jackets. It may also attract new producers to the market.

Graphing Exercise3. The law of supply is demonstrated

by the upward sloping supply curve. It shows that the owner is willing to supply greater quanti-ties of shoes at higher prices. The graph for this answer appears at the bottom of this page.

Make Academic Connections4. The percentage change in price

is 33.3% ($1.00 / $3.00 = 0.333). The percentage change in the quantity supplied is 40.0% (2,000 / 5,000 = 0.40). The price elasticity of supply is 1.20 (0.40 / 0.333 = 1.20). Supply is elastic.

Visualizing the Answer—Graphing Exercise3. The answer includes a graph. Students’ graphs

should look similar to the one shown here. An Excel spreadsheet containing this graph, along with supporting data, is available on the Instruc-tor’s Resource CD.

Chapter 5 S u p p lyChapter 5 S u p p ly

5.1 ASSESSMENT

Think Critically 1. In what ways do the motives of a pizza restaurant owner differ from the motives of

customers who buy the restaurant’s pizza?

2. Why should the quantity of winter jackets supplied increase when there is an increase in the price of these jackets?

Graphing Exercise 3. The owner of a shoe store reviewed her costs to determine how many pairs of running shoes

she would be willing to supply each month at different prices. The results of her research appear in the supply schedule shown here. Use these data to draw her supply curve for run-ning shoes. Explain how the graph demonstrates the law of supply.

SUPPLY OF RUNNING SHOES

Price Quantity Supplied

$70 100

$60 80

$50 60

$40 40

$30 20

Make Academic Connections 4. Mathematics The table below shows how much cheese three dairies in a small com-

munity supply each month at the current price of $3.00 per pound. It also shows how much each one would supply if the price increased to $4.00. Calculate the percent changes in price and in quantity supplied that would result from this price increase. What is the elasticity of supply for cheese in this market? Is supply elastic, unit elastic, or inelastic?

SUPPLY OF CHEESE AT $3.00 AND $4.00 PER POUND

Dairy Quantity Supplied at $3.00 Quantity Supplied at $4.00

A 1,000 pounds 1,300 pounds

B 1,700 pounds 2,600 pounds

C 2,300 pounds 3,100 pounds

Total Production 5,000 pounds 7,000 pounds

Working in small teams, think of fi ve industries other than those given as examples in this lesson. For each industry, describe the product or services sold, as well as the means of distribution, such as retail stores, online, or wholesale. Rank these industries in order of the time the industry needs to adjust to a price change. Give a ranking of 1 to industries that would require the least amount of time to adjust fully to a price change and a 5 to those that would require the most time. Provide an explanation for each of your rankings. Discuss your team’s rankings in class.

TeamWork

141

Answers will vary. Student rankings should demonstrate an understand-ing of diff erent abilities of various businesses to react to change in the price for the product they sell.

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In 2009, Schnatter began a campaign to fi nd the Z28 Camaro he sold to fi nance his fi rst store, off ering a $250,000 reward. The car was traced to a man in Flat-woods, Kentucky, who had kept it in excellent condi-tion. Schnatter bought the car back for $250,000 and paid a $25,000 reward to the family who had tipped him off to its whereabouts. To celebrate, he announced he would give a free pizza to anyone who drove a Camaro to a Papa John’s location on August 26.

Schnatter is generous to the community that is home to his corporate headquarters. He has made dona-tions in the Louisville area that include a $10 million pledge in 2007 toward Louisville’s Papa John’s Cardinal Stadium expansion and a $1 million contribution to the Louisville Zoo’s Glacier Run expansion.

As Papa John’s founder and Chairman of the Board, Schnatter continues to be enthusiastic about making superior-quality pizzas that can be delivered directly to the customer. “I love the product, I like the people, I love the business … It’s all I know.”

Think Critically Analyze the quotations attributed to John Schnatter. From these statements, what qualities do you think he possesses that made him a successful entrepreneur?

Sources: http://fi ndarticles.com/p/articles/mi_m3190/is_n40_v30/ai_18779124/; U.S. Franchising Opportunities - Requirements & Fees - Papa John’s Pizza; http://www.mrpizzaiolo.com/2008/06/04/online-ordering-riches/; http://www.allamericanspeakers.com/sportspeakers/printerbio.php?speaker_id=10358; and http://investing.businessweek.com/research/stocks/people/person.asp?personId=325396&ticker=PZZA:US

John SchnatterFounder, Papa John’s

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Incorporated in 1984 and headquartered in Louisville, Kentucky, Papa John’s is a franchised fast-food restaurant chain that specializes in pizza. It is the third largest pizza take-out and delivery company in the United

States. Papa John’s has more than 3,360 franchises in the United States and an additional 500 in more than 30 other countries.

Papa John’s founder, John Schnatter, began his restaurant career at Rocky’s Sub Pub during high school. During college he delivered pizzas for Greek’s Pizza in Muncie, Indiana. After graduation, he began to work for his father, co-owner of a nearly bankrupt pub in Jeff ersonville, Indiana. In 1983 he sold his treasured 1971 Chevrolet Camaro Z28 to buy out his father’s partner. He then knocked out a closet, installed an oven, and began selling pizza to the pub’s customers. Schnatter made his pizzas using fresh dough and superior-quality ingredients.

The pizza sold so well that in 1984 he opened the fi rst Papa John’s in a retail space next to the pub. Schnatter began off ering Papa John’s franchises in 1986. In 2002 Papa John’s began online ordering throughout the United States. To maintain product consistency and quality, he opened regional commissaries from which fresh dough and other ingredients are delivered twice weekly to the restaurants.

Schnatter off ers advice to potential franchisers on how to manage people:

• “You need to listen to the managers so you know what’s working and what’s not working and can take care of problems as soon as they happen.”

• “You have to entrust people to make decisions if you are going to lead people.”

• “If a manager or anyone has an idea, I want them to deploy that better way to do something.”

• “There are only so many good people out there running restaurants. If you can recruit and retain those people, you will do well. Your competitors will get the leftovers.”


ncorporated in 1984 andin Louisville, Kentucky, Pafranchised fast-food restaspecializes in pizza. It is thtake-out and delivery co

States. Papa John’s has more than 3the United States and an additiona30 other countries.

Papa John’s founder, John Schnatterestaurant career at Rocky’s Sub Pu

T E A C HInstruct students to read the Movers and Shakers feature. Point out that some students may fi nd it helpful to read the article, read the questions at the bottom of the page, and then reread the article.

Think Critically AnswerAnswers will vary. Most answers should indicate an understand-ing that much of John Schnatter’s success comes from a commit-ment to fi nding good people and empowering them. He believes that managing people means more than telling them what to do and that a good manager listens and is open to suggestion.

Extend the ContentHave students visit the Papa John’s website. Instruct them to locate information about community involvement and then write a short report about how they think this involvement contributes to the success of the company.


F O C U S

5.2 SHIFTS OF THE SUPPLY CURVE

Explain that this lesson identifi es events that may cause a business to supply more or fewer prod-ucts when there is no change in the price of the product. Remind students that entrepreneurs operate businesses to earn a profi t. Events that increase a fi rm’s profi ts usually cause that fi rm to supply more products, even if the price remains unchanged. Events that decrease a fi rm’s profi ts usually cause that fi rm to supply fewer products, even if the price remains unchanged. Return to the example of candy bars being sold at football games. How would the students have reacted if the cost of the candy bars they sold had fallen from $1.25 to $.75 while they continued to charge $1.50? Why would they have been willing to supply more candy bars, even though the price they charged did not change?


Key Ter msDirect students to write each key term on a separate index card. Then write the matching defi nition and page reference on the back of the corresponding card. Suggest that students include a rough graph corresponding to the concept. Encourage students to use the cards to study for quizzes and tests.

In Your WorldBefore asking students to read the feature, ask them what happened to the supply of wired phones as the number of wireless and cell phones increased? What happened to the supply of pay phones as the number of cell phones increased? What happened to the supply of cell phones as companies planned to build larger cell-phone networks?


Standard 4 Incentives



Chapter 5 S u p p ly

Key Termsmovement along a supply

curve 147

shift of a supply curve 147

Learning Objectives

L 1 Identify the determinants of supply, and explain how a change in each affects the supply curve.

L 2 Contrast a movement along the supply curve with a shift of the supply curve.

In Your WorldSupply curves indicate the price and variety of goods available to you—from the latest social network sites to the smartest phones. Assumed constant along a supply curve are the determinants of supply other than the good’s price. As you will see, there are fi ve such determinants of supply. A change in any of these could cause a supply curve to shift. Th is contrasts with a change in price, other things constant, which causes a movement along a supply curve.

S H I F T S O F T H E S U P P LY C U R V E

5.2

DETERMINANTS OF SUPPLYEach fi rm’s supply curve is based on the cost of production and profi t opportunities in the market. Anything that aff ects production costs and profi t opportunities helps shape the supply curve. Following are the fi ve determinants of market supply other than the price of the good:

1. Th e cost of resources used to make the good

2. Th e price of other goods these resources could make

3. Th e technology used to make the good

4. Producer expectations

5. Th e number of sellers in the market

Change in the Cost of ResourcesAny change in the cost of resources used to make a good will aff ect the supply

of the good. For example, suppose the cost of mozzarella cheese falls. Th is reduces the cost of making pizza. Producers are therefore willing and able to supply more pizza at each price. Th is is refl ected by a rightward shift of the supply curve from S to S´ in Figure 5.6. After the shift, the quantity supplied is greater at each price. For example, at a price of $12, the quantity supplied increases from 24 million to

L 1Identify the

determinants

of supply, and

explain how

a change in

each affects

the supply

curve.

143


Learning Through GraphicsUse Figure 5.6—An Increase in the Supply of Pizza to illustrate a shift of the supply curve.


28 million pizzas per week, as shown by the movement from point g to point h. In short, an increase in supply—that is, a rightward shift of the supply curve—means that producers are willing and able to supply more pizza at each price.

What about an increase in the cost of a resource used to make pizza? Th is means that at every level of output, the cost of supplying pizza increases. An increase in the cost of a resource will reduce the supply of pizza, meaning a leftward shift of the supply curve. For example, if the wage paid to pizza workers increases, the higher labor cost would increase the cost of production, so pizza becomes less profi table.

Higher production costs decrease supply, so pizza supply shifts leftward, as from S to S´́ in Figure 5.7. Producers supply less at each price. For example, at a price of $12, the quantity supplied declines from 24 million to 20 million per week. Th is is shown in Figure 5.7 by the movement from point g to point i.

Change in the Prices of Other GoodsNearly all resources have alternative uses. Th e labor, building, machinery,

ingredients, and knowledge needed to make pizza could produce other products, such as calzones, bread sticks, rolls, and other baked goods.

A change in the price of another good these resources could make aff ects the opportunity cost of making pizza. For example, if the price of calzones falls, the opportunity cost of making pizza declines. Th ese resources are not as profi t-able in their best alternative use, which is making calzones. So pizza production

FIGURE 5.6 An Increase in the Supply of Pizza An increase in the market supply of pizza is refl ected by a

rightward shift of the supply curve, from S to S'. After the increase in supply, the quantity supplied per week increases at each price. For example, the quantity of pizza supplied at a price of $12 increases from 24 million pizzas (point g) to 28 million pizzas (point h).

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T E A C HDeterminants of SupplyPoint out that before 1984, the only telephones off ered to the public were hard wired into the AT&T telephone system. At that time, making long distance calls was quite expensive. Ask students to discuss changes that have taken place dur-ing their lives that have increased the supply of long-distance telephone communication, even though the price has not increased and is in fact lower. How has new communica-tions technology caused the supply curve for telephone communications to shift? Lead this into a discussion of the impact that technology has on the costs of production, and, therefore, on the location of many fi rms’ supply curves.

Direct students to the Graphing Workshop for Unit 2A, or consider using the presentation as a teach-ing tool in class. Watch and listen to an explanation about shifts of the supply curve.www.cengage.com/school/ contecon

Outside ResourcesStatistical Abstract of the United States This valuable resource can be found at the U.S. Census Bureau website. Instruct students to fi nd the link to the Statistical Abstract and then search for “Selected Timber Products— Producer Price Indexes.” The table indicates changes in the price of basic lumber products. Discuss how changes in the costs of materials used in construction would aff ect the supply of new houses. As an alternative, you could download the table and provide it to students.


Learning Through GraphicsUse Figure 5.7—A Decrease in the Supply of Pizza to illustrate a shift of the supply curve.

T E A C HDeterminants of Supply (continued)Explain how the change in the cost of resources aff ects the supply of a good. Tell students to imagine that a way to convert water into gasoline has been discovered. Although it will take several years to supply all the gasoline needed, it is only a matter of time before the price of gasoline falls to 5 cents per gallon. They should also imagine that they own a refi nery that has stored 5 billion gallons of gasoline. What will happen to the amount of gaso-line they are willing to supply at the current price? (The supply curve for gasoline will shift to the right because of this change in expectations.)


becomes relatively more attractive. As some resources shift from baking calzones to making pizza, the supply of pizza increases, or shifts to the right, as shown in Figure 5.6.

On the other hand, if the price of calzones increases, so does the opportunity cost of making pizza. Some pizza makers may bake more calzones and less pizza, so the supply of pizza decreases, or shifts to the left, as in Figure 5.7. A change in the price of another good these resources could produce aff ects the profi t incen-tives of pizza makers.

Change in TechnologyTechnology represents the economy’s stock of knowledge about how to

combine resources effi ciently. Discoveries in chemistry, biology, electronics, and many other fi elds have created new products, improved existing products, and lowered the cost of production. For example, the fi rst microprocessor, the Intel 4004, could execute about 400 computations per second when it hit the market in 1971. Today a standard PC can handle more than 6 billion computations per second, or 15 million times what the Intel 4004 could handle. Technological change—in this case, faster computers—lowers the cost of producing goods that involve computers, from automobile manufacturing to document processing.

Along a given market supply curve, technological know-how is assumed to remain unchanged. If better technology is discovered, the cost of production falls, making this market more profi table. Improvements in technology make fi rms

FIGURE 5.7 A Decrease in the Supply of Pizza A decrease in the supply of pizza is refl ected by a leftward shift

of the supply curve, from S to S”. After the decrease in supply, the quantity supplied per week decreases at each price level. For example, the quantity of pizza supplied at a price of $12 decreases from 24 million pizzas (point g) to 20 million pizzas (point i ).

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E N R I C HAt the beginning of the twenty-fi rst century, many automobile manufacturers made little profi t producing standard family sedans. Their profi ts were being generated almost entirely by huge SUVs and luxury models. As a result, manufacturers introduced a wide variety of new, expensive cars. Ask students to sketch supply curves and explain how this situation would have caused a shift in supply both for luxury models and standard family sedans. What problem are manufacturers likely to encounter as more luxury models are brought to market? (The supply for sedans shifted to the left while supply for luxury models shifted to the right, as resources were reallocated from low-profi t to high-profi t production.)

Direct students to the Graphing Workshop for Unit 2A, or consider using the presentation as a teaching tool in class. Watch and listen to an explanation about shifts of the supply curve.www.cengage.com/school/contecon



willing and able to supply more of the good at each price. Con-sequently, supply increases, as refl ected by a rightward shift of the supply curve. For example, suppose a new high-tech oven that costs the same as exist-ing ovens bakes pizza in half the time. Such a breakthrough would shift pizza supply rightward, as from S to S´ in Figure 5.6, so more is supplied at each price.

Change in Producer ExpectationsProducers transform resources into goods they hope to sell for a profi t. Any

change that aff ects producer expectations about profi tability can aff ect market supply. For example, if pizza makers expect the price to increase in the future, some may expand their production capacity now. Th is would shift the supply of pizza rightward, as shown in Figure 5.6.

Some goods can be stored easily. For example, crude oil can be left in the ground and grain can be stored in a silo. Expecting higher prices in the future might prompt some producers to reduce their current supply while awaiting the higher price. Th is would shift the current supply curve to the left, as shown in Figure 5.7. Th us, an expectation of higher prices in the future could either increase or decrease current supply, depending on the good.

Change in the Number of SuppliersAny change in the market environment also can aff ect the number of suppli-

ers in that market. For example, government regulations may infl uence market supply. As a case in point, for decades government strictly regulated the prices and entry of new fi rms in a variety of industries including airlines, trucking, and telecommunications. During that era, the number of fi rms in each market was artifi cially limited by these government restrictions. When these restrictions were eased, more fi rms entered these markets, increasing supply. More generally, any government action that aff ects a market’s profi tability, such as a change in busi-ness taxes, could shift the supply curve. Lower taxes on a particular industry will attract more fi rms to that market, thereby increasing supply. Higher taxes will have the opposite eff ect.

What are the fi ve determinants of supply, and how does a change in each affect the supply of a product?

Changes and advances in computer technology have lowered the production costs of many goods and services in recent years. Since the year 2000, many major developments have occurred. Access a time-line that covers developments in computer technology from 2000 to 2011 by clicking on the URL below. After scanning the list, click on one of the links for a development you think infl uenced the production of goods and services in some way. Write a paragraph describing the development and its infl uence.


Businesses generally pay taxes to the local, state, and federal governments. Contact your local govern-ment’s bureau of taxation. Find out what taxes are paid by local businesses. Also fi nd out if business taxes have changed in the past fi ve years. Has an increase or decrease in tax rates aff ected supply in your area? Write a paragraph to explain your fi ndings.

146

Assign the activity on this page. In addition to contacting the local government’s bureau of taxation, suggest that students search local newspaper archives (often available online) to fi nd stories related to the impact of taxation on local business. Consider allowing students to work in pairs.

Remind students to click on the link for Chapter 5 to fi nd the appropriate link for the NET Bookmark on this page.

AnswerAnswers will vary. Students should click on the link for a development in computer tech-nology that they think infl uenced the production of goods and services. Their paragraphs should describe the develop-ment and state how it infl uenced production.

InvestigateYour Local Economy

AnswerThe fi ve determinants of supply are:

Cost of resources: An increase in the cost of resources will shift the supply curve inward.

The price of other goods the resources could make: An increase of this will shift the supply curve inward.

Technology used to make the good: An increase in this will shift the supply curve outward.

Producer expectations: An increase in this will cause the supply curve to shift outward.

The number of sellers in the mar-kets: An increase in this will cause the supply curve to shift outward.

Curriculum Connection—JournalismInvite a journalist who covers business or government for a local newspaper to speak to your class about the local economy. Ask the speaker to share some of the resources and sources that are routinely used by journal-ists who write about the economy. Encourage the speaker to provide a handout, such as a copy of a recently published story.


Direct students to read the short passage titled “Oil for One and One for Oil” and answer the question.

Think Critically AnswerPossible answer: The United States could develop reserves of oil it could tap if OPEC reduced production in the future. It also could develop alternative sources of energy using geothermal power, wind, or energy from the sun.

T E A C HA Movement Along a Supply Curve Versus a Shift of a Supply CurveUse the board to illustrate the two movements. Draw a supply curve, and then illustrate movements along it. Next, draw a second supply curve to illustrate a shift. You can extend this by illustrating that there can be movements along the second supply curve. This can be done along with answering the Checkpoint question.


A MOVEMENT ALONG A SUPPLY CURVE VERSUS A SHIFT OF A SUPPLY CURVE

Note again the distinction between a movement along a supply curve and a shift of a supply curve. A change in price, other things constant, causes a movement along a supply curve from one price-quantity combination to another. A change in one of the determinants of supply other than the price causes a shift of a supply curve, changing supply. A shift of the supply curve means a change in the quantity supplied at each price.

A change in price, other things constant, changes quantity supplied along a given supply curve. A change in a determinant of supply other than the price of the good—such as the cost of resources used to make the good, the price of other goods these resources could produce, technology used to make the good, producer expectations, or the number of fi rms in the market—shifts the entire supply curve to the right or left.

L 2Contrast a

movement

along the

supply curve

with a shift

of the supply

curve.

movement along a supply curve Change inquantity supplied resulting froma change in the price of the good,other things constant

shift of a supply curve Increase or decrease in supply resulting from a change in one of the determinants of supply otherthan the price of the good

Oil for One and One for OilThe Organization of the Petroleum Exporting Countries (OPEC) is a 12-nation, international group that works to control the output and price of oil. OPEC pumps about one-third of the world’s crude oil. Its production policies can have a major eff ect on the price consumers pay for fuel to drive their cars and heat their homes.

Representatives of 12 countries meet periodically and agree to increase, decrease, or hold constant the number of barrels of crude oil they supply to achieve the price level they desire. If the market price drops, OPEC can cut pro-duction to increase the price to the desired level. If the market price rises, OPEC can increase production to lower the price to the desired level. OPEC has no control over the world demand for oil or what other oil producers supply. When OPEC reaches its productive capacity, it can still reduce output to increase the price, but it can’t increase output much if it wants to lower the price.

Think Critically As OPEC nears its productive capacity, why can it more easily raise the world price of oil than lower the world price?

Sources: Berkman, Ouliaris, & Samiei, “The Structure of the Oil Market and Causes of High Prices,” International Monetary Fund, September 21, 2005.

Explain the difference between a movement along a supply curve and a shift of a supply curve.

147

AnswerA change in price causes a move-ment along the supply curve from one price-quantity combination to another. A change in one of the determinants of supply other than price causes a shift of a supply curve. This results in a change in the quantity supplied at each price.


A S S E S SAssign all or part of Lesson 5.2 Assessment on page 148 as homework or an in-class activity.



R E T E A C HAsk students to identify a popular music group. Tell them to imagine that the price of this group’s recordings has increased by 50 percent in the last year. Explain that the higher price generates a larger profi t, which encourages the group to produce additional recordings. Point out that this is movement along the supply curve. Now explain that the price of recordings has not changed, but a new technology has been found that allows the group to produce recordings at half the cost. Why would this also increase the number of new recordings supplied? Point out that this second example also results in an increased profi t for the group that is caused by the lowered costs of production. This situation results in a shift of the group’s supply curve to the right because the cost of produc-ing recordings has declined.


Visualizing the Answer—Graphing Exercise4. The answer includes a graph of a supply

curve. Students’ graphs should look similar to the one shown here.

UNIT 2 THE MARKET ECONOMYUNIT 2 THE MARKET ECONOMY

Working in small teams, identify fi ve products that have experienced either an increase or decrease in supply over the past year. Explain what event(s) caused the shift in supply for each of the products and which of the fi ve determinants of supply the shift demonstrates. Discuss your team’s work with the class.

TeamWork k ll d f fi d h h d hT W k

Think Critically 1. One year a farmer grows corn on his 200 acres of land. He sells his corn in September for

$3.00 per bushel. Early the next spring he notices that the price of soybeans has gone up 50 percent while the price of corn has remained the same. What might happen to his supply curve for corn? Explain your answer.

2. The Apex Plastics Corp. fi nds a new way to produce plastic outdoor furniture from recycled milk bottles at a low cost. What will happen to the supply curve for plastic furniture? Explain your answer.

3. A big storm destroys most of the sugarcane crop in Louisiana. Most people expect this to cause a large increase in the price of sugar in a few months. What will happen to the supply curve for sugar today?

Graphing Exercise 4. Make a copy of the supply curve

shown here. Draw and explain the shifts of the market supply curve on your copy that would result from each of the following events. Label each shift of the supply curve.a. There is an increase in the cost

of rubber used to produce the soles of running shoes.

b. There is a decrease in the market price of rubber tires.

c. A new machine is invented that produces running shoes using only one-third as many workers.

d. A new mall is built in town with three stores that sell running shoes.

Make Academic Connections 5. Research Use newspapers, magazines, or the Internet to research a world event that could

have an impact of the supply of a product consumed in the United States. Describe this event and explain how it might shift the U.S. supply curve.

6. Technology Choose a single product many consumers buy, and write a paragraph that discusses whether the creation of the Internet has shifted the supply curve for this product.

5.2 ASSESSMENT

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Think Critically1. Possible answer: The increase

in the price of soybeans might cause the farmer to grow them instead of corn. This would cause his supply curve for corn to shift to the left.

2. Possible answer: This new technology that reduces the cost of producing plastic furniture will shift the supply curve for this product to the right.

3. Possible answer: The businesses that have sugar to sell may hold it back so they can sell it later at a higher price. This will shift the supply curve for sugar to the left.

Graphing Exercise4. The graph for this answer

appears at the bottom of this page.a. The market supply curve will

shift leftward.b. The market supply curve will

shift leftward.c. The market supply curve will

shift rightward.d. The market supply curve will

shift rightward.

Make Academic Connections5. Possible answer: A war, storm, or

political unrest in a nation that exports important products to the United States could shift the supply curve for these products in this country.

6. Possible answer: The Internet has increased the number of busi-nesses from which consumers may buy goods and services. This has caused the supply curves for many consumer products to shift rightward.

Team answers should demonstrate students’ understanding of the fi ve determinants of supply and how changes in these can cause supply curves to shift.

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F O C U S

5.3 PRODUCTION AND COST

Point out that this lesson demon-strates the types of costs businesses pay when they supply goods or services to the market. Remind students that businesses exist to earn a profi t and that profi t is equal to the revenue they receive from their sales less the costs they paid to supply products. Any factor that either increases or decreases their costs will aff ect their profi ts and, therefore, the amount of product they are willing to supply. By study-ing costs of production, businesses can determine how many products they should supply at each possible price.


Key Ter msDirect students to create a database using the key terms for this lesson. The database fi elds should include terms, defi nitions, and page num-bers. Point out that the process of keying the data is an eff ective way to study key terms.

In Your WorldAsk students if they believe that school functions such as plays, concerts, or athletic events should be profi table. Next, have students estimate the cost of the resources it takes to put on the function as well as its estimated revenue. Tell them that what they learn in this chapter will help them analyze the produc-tion and costs of school events and determine their profi tability.



Learning Objectives

L 1 Explain how marginal product varies as a fi rm hires more labor in the short run.

L 2 Explain the shape of the fi rm’s marginal cost curve and identify what part of that is the fi rm’s supply curve.

L 3 Distinguish between economies of scale and diseconomies of scale in the long run.

In Your WorldSuppose you manage a fi rm, such as a fast-food restaurant. How much should you supply in order to maximize profi t? Th e answer requires a brief introduction to how a fi rm converts productive resources into outputs. In general, a profi t-maximizing fi rm increases the quantity supplied as long as the marginal revenue from each unit sold exceeds its marginal cost. But no fi rm is guaranteed a profi t in a market economy. Some fi rms just break even and others suff er losses that could eventually drive them out of business. Still, just the promise of profi t attracts a steady stream of entrepreneurs.

Key Termsshort run 149

long run 149

total product 150

marginal product 150

law of diminishing returns 151

fi xed cost 152

variable cost 152

total cost 153

marginal cost 154

marginal revenue 155

economies of scale 157

long-run average cost curve 158

P R O D U C T I O N A N D C O S T5.3

PRODUCTION IN THE SHORT RUNA fi rm tries to earn a profi t by converting productive resources, or inputs, into goods and services, or outputs. Consider produc-tion by a hypothetical moving company called Hercules.

Fixed and Variable ResourcesAll producers, including Hercules, use two categories of

resources: fi xed and variable. Resources that cannot be altered easily—the size of a building, for example—are called fi xed

resources. Hercules’ fi xed resources consist of a warehouse, a moving van, and some moving equipment. Resources that can be varied quickly to change output are called variable resources. In this example, suppose labor is the only variable resource.

When considering the time required to change the quantity of resources employed, economists distinguish between the short run and the long run. In the short run, at least one resource is fi xed. In the long run, all resources can be varied. Hercules is operating in the short run because some resources are fi xed. In this example, labor is the only resource that varies in the short run. A fi rm can enter or leave a market in the long run but not in the short run.

L 1Explain how

marginal

product

varies as a

fi rm hires

more labor in

the short run.

short run A period during which at least one of a fi rm’s resources is fi xed

long run A period during which all of a fi rm’s resources can be varied

149

Standard 2 Decision Making

Standard 6 Specialization



Standard 9 Competition and Market Structure

Standard 13 Income

Standard 14 Entrepreneurship


Learning Through GraphicsUse Figure 5.8—Short-Run Rela-tionship Between Units of Labor and Tons of Furniture Moved to illustrate the law of diminishing returns. Point out that total product does not increase at the same rate with each person hired.

T E A C HProduction in the Short RunStudents are often confused about the diff erence between the short run and long run. For businesses, the short run is the time when at least one of its factors of production is fi xed. In the long run, no factors of production are fi xed. To demon-strate these concepts, return to the example of students selling pizza at football games. Explain that to rent a larger booth, the students had to agree to pay $100 for each of the fi ve remaining home games. Once a contract is signed, this fi xed resource will not change until the season is over. They can add or sub-tract other variable factors, such as workers or products to supply. For the students, then, the remainder of the football season is the short run. In the next season, however, they may choose whether or not to rent a booth and sell pizza again. For the students, the long run begins when they are no longer obligated to rent the booth.

Outside ResourcesUtility Bills Use a utility bill to start a discussion about the diff erent types of costs producers pay. Electric bills typ-ically feature a relatively high rate for the fi rst units of power used. As more electricity is consumed, however, the rate per KWH generally falls. Students can be shown copies of such bills and asked to explain the price structure. They should come up with the idea that the fi rst units are expensive to cover the fi xed cost of producing electric-ity. Additional units are less expensive because the marginal cost of producing additional electricity is lower.


Increasing ReturnsWithout labor, nothing gets moved, so total product is zero when no workers

are hired. If one worker is hired, that person must do all the driving, packing, and moving. A single worker cannot easily move some of the larger items. Still, one worker manages to move 2 tons per day. When a second is hired, some division of labor occurs, and two can move the big stuff more easily, so production more than doubles to 5 tons per day. Th e marginal product of a second worker is 3 tons per day.

total product The totaloutput of the fi rm per period

marginal product Thechange in total product resultingfrom a one-unit change in aparticular resource, all other resources constant

FIGURE 5.8 Short-Run Relationship Between Units of Labor and Tons of Furniture MovedAs each of the fi rst three workers is hired, the fi rm experiences increasing returns from labor. Marginal product increases as more labor is hired. Beginning with the fourth worker, the law of diminishing returns takes hold. This law states that as more units of one resource are added to all other resources, mar-ginal product eventually declines.

Units of the Variable Resource (worker-days)

Total Product (tons moved per day)

Marginal Product (tons moved per day)

0 0 —

1 2 2

2 5 3

3 9 4

4 12 3

5 14 2

6 15 1

7 15 0

8 14 −1

Figure 5.8 relates the amount of labor employed to the amount of furnish-ings moved. Labor is measured in worker-days, which is one worker for one day. Output is measured in tons of furnishings moved per day. Th e fi rst column shows the number of workers employed per day. Th e second column shows the total product per day, measured in tons of furniture moved. Total product is the total output of the fi rm per period—in this case, tons of furniture moved per day. Th e third column shows the marginal product of each worker—that is, the amount by which the total product changes with each additional worker, assuming other resources remain unchanged.

150


T E A C HProduction in the Short Run (continued)Give one student a blanket and ask this person to fold it neatly. Time and record the student’s progress. Then have two students complete the same task together. They will be able to fold the blanket much more quickly because they can hold it better. Add a third and then a fourth student. Require each student to participate in the folding process. The time it takes to fold the blanket will begin to grow as they get in each other’s way. Use this example to begin a discussion of decreasing and increasing returns of employing additional factors of production—in this case, additional workers.


Adding a third worker allows for an even better division of labor, which contributes to increased production. For example, one worker can pack fragile items while the other two do the heavy lifting. Th e total product of three workers climbs to 9 tons per day, 4 tons more than with two workers. Th e fi rm experiences increasing returns from labor as each of the fi rst three workers is hired, meaning that marginal product increases as more labor is hired.

Law of Diminishing ReturnsHiring a fourth worker adds to the total product

but not as much as was added by a third. Hiring still more workers increases total product by succes-sively smaller amounts, so the marginal product in Figure 5.8 declines after three workers. Beginning with the fourth worker, the law of diminishing returns takes hold. Th is law states that as more of one resource is added to a given amount of other resources, marginal product eventually declines. Th e law of diminishing returns is the most important feature of production in the short run.

As long as marginal product is positive, total product continues to increase. However, as more workers are hired, total product may eventually decline. For example, an eighth worker would crowd the work area so much that people start getting in each other’s way. As a result, total output would drop, meaning a nega-tive marginal product. Likewise, a restaurant can hire only so many cooks before congestion and confusion in the kitchen cut total product.

Marginal Product CurveFigure 5.9 shows the marginal product of labor, using data from Figure 5.8.

Note that because of increasing returns, marginal product increases with each of the fi rst three workers. Beginning with the fourth worker, diminishing returns cut marginal product. Marginal product turns negative if an eighth worker is hired. Figure 5.9 identifi es three ranges of marginal product:

1. Increasing marginal returns

2. Diminishing but positive marginal returns

3. Negative marginal returns.

Firms normally produce in the range of diminishing but positive marginal returns.

When Hercules hires a second worker, division of labor occurs, and production more than doubles. What is total product and marginal product with two workers? With three workers? What happens when a fourth worker is hired?

Phot

odis

c/Ge

tty Im

ages

law of diminishing returns As more of a variable resource is added to a given amount of other resources,marginal product eventuallydeclines and could becomenegative

151

E N R I C HTell students that a farmers’ market is held in Wellsville every Saturday. The farmers rent stalls for $50 per day, where they market their produce. Ask students to explain why the farmers try to sell as many products as they possibly can each day. How does this example demonstrate fi xed, variable, and marginal costs of production? What happens to the proportionate amount of fi xed cost per item as more produce is sold? (The farmers try to sell as many products as possible each Saturday so as to increase their profi ts. Their fi xed costs are the $50 stall rental and the cost of producing the products being sold. Variable costs might be in preparing the product for the market— picking, packing, etc. The variable costs and marginal costs would decrease as more of the product is being prepared. However, the farmer will reach a point where the amount produced for market is more than the amount that will be sold and the farmer will be left with a perishable item that cannot be sold later. This illustrates the law of diminishing returns, and at that point, returns begin to diminish.)

Think Critically Through VisualsDirect students to focus their attention on the photograph on this page. Ask for a volunteer to answer the question posed in the caption.

AnswerWith two workers, the total product is fi ve tons moved per day and the marginal product is three tons moved per day. With three workers, the total product is nine tons and the marginal product is four. With four workers, the total product is twelve and the marginal product is three.


Learning Through GraphicsPoint out that Figure 5.9—The Marginal Product of Labor is a graphic representation of the data shown in Figure 5.8 on page 150.


How does marginal product vary as a fi rm employs more labor in the short run?

COSTS IN THE SHORT RUNNow that you have some idea about production in the short run, consider how the fi rm’s costs vary with output. A fi rm faces two kinds of costs in the short run: fi xed cost and variable cost.

Fixed and Variable CostsA fi xed cost is one that does not change in the short run,

no matter how much is produced. A fi rm must pay a fi xed cost even when nothing gets produced. Even if Hercules hires no labor and moves no furniture, the fi rm must pay for the

warehouse, property taxes, insurance, vehicle registration, and equipment. By defi nition, fi xed cost is just that—fi xed. It does not vary with output in the short run. Fixed cost is sometimes called overhead. Hercules’ fi xed cost is $200 per day.

Variable cost varies with the amount produced. With Hercules, only labor varies in the short run, so labor is the only variable cost. For example, if Hercules hires no labor, output is zero, so variable cost is zero. As more labor is employed, output increases, as does variable cost. Variable cost depends on the amount of labor employed and on the wage. If the fi rm can hire each worker for $100 per day, variable cost equals $100 times the number of workers hired.

FIGURE 5.9 The Marginal Product of LaborThe marginal product of the fi rst three workers shows increas-ing returns. The next three workers show diminishing returns, the seventh shows a zero return, and the eighth shows nega-tive returns.

L 2Explain the

shape of the

fi rm’s marginal

cost curve and

identify what

part of that

is the fi rm’s

supply curve.

fi xed cost Any productioncost that is independent of thefi rm’s output

variable cost Any produc-tion cost that changes as outputchanges

Increasing returns

Diminishing butpositivereturns

Negativereturns

5 10

5

4

3

2

1

0

Workers per day

Mar

gina

l pro

duct

(ton

s/da

y)

Marginalproduct

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AnswerAs more workers are hired, the marginal product increases. Then, after a while, there is diminishing but positive marginal product as the fi rm hires more labor. Finally, there is negative marginal product as the fi rm hires even more labor.

T E A C HCosts in the Short RunRemind students that in the short run, some costs businesses pay are fi xed while others are variable. Show the class a copy of a news-paper that is off ered free of charge to residents of their community. In many locations, it is called the Penny Saver. Ask the students to identify fi xed costs that the publishers of this newspaper would have to pay in the short run (rent, insurance, leasing a computer, or monthly pay-ments for delivery truck loans) and others that would be variable (pro-duction workers’ wages, newsprint, or electricity to operate the fi rm’s printing press). This discussion can be directed to the topic of diff erenc-es between the short run and long run in which all costs are variable.

Curriculum Connection—ScienceIn the United States, many aspects of diff erent crops have been changed through genetic engineering. Strains of wheat and corn have been developed that are resistant to disease; tomatoes are grown that are fi rmer in order to ship better; and other fruits have been altered to last longer on store shelves. Ask students to investigate devel-opments in genetically engineered foods and to discuss how these technological advancements have changed the supply of food products available for purchase.


Learning Through GraphicsUse Figure 5.10—Short-Run Cost Data for Hercules to illustrate the cost information for Hercules.

T E A C HCosts in the Short Run (continued)Return to the example of the free shopping newspaper. Tell stu-dents that the publishers of this paper generate income by sell-ing advertising. The amount they charge depends on the number of households that receive the news-paper. The owners of this business are considering adding a neighbor-ing community with 2,500 homes to their area of circulation. This would increase their variable costs by 25 percent in the short run. The owners believe that this increased circulation would allow them to increase their advertising income by 30 percent. Ask students to explain how the owners should make their decision. What additional informa-tion might they need? This example can be used to illustrate the con-cepts of marginal cost and marginal revenue.


Total CostFigure 5.10 off ers cost information for Hercules. Th e table lists the daily cost

of moving furniture. Column 1 shows the number of tons moved per day. Col-umn 2 shows the quantity of labor needed to produce each level of output. For example, moving 2 tons per day requires one worker, 5 tons requires two workers, and so on. Only the fi rst six workers are listed, because additional workers would add nothing to total product.

Column 3 lists variable cost, which equals $100 times the number of work-ers employed. For example, the variable cost of moving 9 tons of furniture per day is $300 because this output rate requires three workers. Column 4 indicates the fi xed cost for each output total. By defi nition, fi xed cost remains at $200 per day regardless of the amount moved. Column 5 lists the total cost, which sums the variable cost and fi xed cost—that is, columns 3 plus 4. As you can see, when output is zero, variable cost is zero, so total cost consists entirely of the fi xed cost of $200.

total cost The sum of fi xedcost and variable cost

FIGURE 5.10 Short-Run Cost Data for HerculesColumn 7 shows the marginal cost of moving another ton of furnishings. It is the change in total cost divided by the change in tons moved.

Marginal CostOf special interest to the fi rm is how much total cost changes with output. In

particular, what is the marginal cost of moving another ton? As shown in columns 6

1 Tons Moved

per Day

2 Workers Per Day

3 Variable Cost

4 Fixed Cost

5Total Cost

6 Change in total cost ÷ Change in

tons moved =

7 Marginal

Cost

0 0 $ 0 $200 $200 —

2 1 $100 $200 $300 $100 ÷ 2 $ 50.00

5 2 $200 $200 $400 $100 ÷ 3 $ 33.33

9 3 $300 $200 $500 $100 ÷ 4 $ 25.00

12 4 $400 $200 $600 $100 ÷ 3 $ 33.33

14 5 $500 $200 $700 $100 ÷ 2 $ 50.00

15 6 $600 $200 $800 $100 ÷ 1 $100.00

153

GROUP ACTIVITYOrganize students into small groups. Tell each group that they manufacture fi ling cabinets. Their fi xed costs total $5,000 per week, and they must pay a marginal cost of $40 for each additional cabinet they produce. They are currently selling 250 cabinets each week at a price of $60. A foreign customer has off ered to buy 50 additional cabinets per week but is willing to pay only $50 per extra cabinet. Ask each group to decide whether they would agree to sell the cabinets at this discounted price. Ask them to explain their decisions. (They should agree to the off er. The $50 price is greater than their marginal cost of $40. They will earn a $500 profi t per week instead of breaking even, which they are doing now.)


Learning Through GraphicsUse Figure 5.11—Marginal Cost Curve for Hercules to illustrate a marginal cost curve.

T E A C HCosts in the Short Run (continued)Use the free newspaper example again. Tell students that the owners have found that they must pay 6 cents per copy to have the paper delivered, instead of the 2 cents they paid in the past. This increased cost has resulted in a loss for the fi rm. The fi rm is obligated to pay $2,000 for fi xed costs each month, and it paid $9,000 in variable costs last month. Its total revenue for that month was $10,000. Ask students to calculate the fi rm’s total costs ($11,000) and the amount it lost ($1,000). How much would the fi rm lose if it closed? ($2,000, the fi xed costs) Discuss why fi rms continue to operate at a loss in the short run if their revenue pays for their fi xed costs. In the long run, the fi rm will fail if it continues to lose money.


and 7 of Figure 5.10, the marginal cost of production is simply the change in total cost divided by the change in quantity, or

Marginal cost = Change in total cost

Change in quantity

For example, increasing output from 0 to 2 tons increases total cost by $100. Th e marginal cost of each of the fi rst 2 tons is the change in total cost, $100, divided by the change in output, 2 tons, or $100/2, which equals $50. Th e mar-ginal cost of each of the next 3 tons is the change in total cost, $100, divided by the change in output, 3 tons, or $100/3, which equals $33.33.

Notice in column 7 that marginal cost fi rst decreases and then increases. Changes in marginal cost refl ect changes in the productivity of the variable resource, labor. Th e fi rst three workers show increasing returns. Th is rising mar-ginal product of labor reduces marginal cost for the fi rst 9 tons moved. Beginning with the fourth worker, the fi rm experiences diminishing returns from labor, so the marginal cost of output increases. Th us, marginal cost in Figure 5.10 fi rst falls and then rises, because returns from labor fi rst increase and then decrease.

Marginal Cost CurveFigure 5.11 shows the marginal cost curve for moving furniture based on the

data in Figure 5.10. Because of increasing returns from labor, the marginal cost curve at fi rst slopes downward. Because of diminishing marginal returns from labor, the marginal cost curve slopes upward after 9 tons. Keep in mind that economic analysis is marginal analysis. Marginal cost is a key to the fi rm’s production decision.

marginal cost Thechange in total cost resultingfrom a one-unit change in output; the change in total costdivided by the change in output

FIGURE 5.11 Marginal Cost Curve for HerculesMarginal cost fi rst declines, refl ecting increasing marginal returns, and then increases, refl ecting diminishing marginal returns.

63 9 12 150

$100

50

25

Tons per day

Marginalcost

Cost

per

ton

154

The Teaching EconomistThe Teaching Economist is a semi-annual newsletter that, since 1990, has aimed to make teaching economics more fun and more eff ective. William A. McEachern, of the University of Connecticut, is Founding Editor. All issues are available at http://www.cengage.com/economics/mceachern/theteachingeconomist

An article in Issue 29, “Freakonomics,” gives examples drawn from the best-selling book of the same title by Levitt and Dubner. The examples show the power of market forces and the eff ectiveness of economic incentives.


T E A C HCosts in the Short Run (continued)Explain that some businesses, such as White Castle, as well as some grocery stores and gas stations, stay open 24 hours a day, seven days a week because they have determined that their variable costs can be covered by the additional revenue produced. Other busi-nesses have determined that, while the interior of their establishment is closed, they can cover the variable cost of keeping their drive-thru business open longer. Ask the students why in the North many amusement parks close during the winter while those in the South remain open. Why might those in the North open for a few weeks at Christmas?


Marginal RevenueTo understand how fi rms work, it may help to draw on your knowledge of

demand. Remember that demand is based on the marginal benefi t that consum-ers get from buying each additional unit of the good. Likewise, supply is based on the marginal benefi t that producers get from selling each additional unit of a good. Th e marginal benefi t that producers get from supplying another unit is the marginal revenue they receive. Th is is the change in total revenue from selling that unit. In competitive markets, the fi rm’s marginal revenue is the market price. A competitive fi rm receives the market price for selling one more unit.

Maximizing Profi t and Minimizing LossIn general, producers sell additional units as long as the marginal revenue they

receive exceeds the marginal cost. In competitive markets, the fi rm supplies addi-tional units as long as the price exceeds marginal cost. Th e fi rm’s profi t-maximiz-ing level of output occurs where marginal revenue equals marginal cost. Th us, for a fi rm in competitive markets, the profi t-maximizing level of output occurs where the market price equals marginal cost.

Th ere is one qualifi cation to this profi t-maximizing rule. Sometimes the market price may be so low that production makes no economic sense. At the level of out-put where marginal revenue equals marginal cost, the fi rm’s total revenue must at least cover its variable cost. A fi rm that can’t cover variable cost should shut down.

Here’s the logic behind the shutdown decision. Even if the fi rm produces noth-ing in the short run, it must still pay fi xed cost. If nothing is produced, the fi rm’s loss equals fi xed cost. For example, Hercules would lose $200 per day if no labor is hired and no furniture gets moved.

What if the market price is relatively low, say $25 per ton, but the fi rm decides to produce anyway, hiring three workers for $100 each to move 9 tons per day? Th e total revenue from supplying 9 tons at $25 per ton is $225. Th at’s $75 less than the variable cost of $300. Th e fi rm loses $75 in variable cost plus $200 in fi xed cost, for a total loss of $275. Th e fi rm would lose less—only $200—by shut-ting down. Why produce when doing so only increases the loss?

A fi rm’s minimum acceptable price is a price high enough to ensure that total revenue at least covers variable cost. If the market price is below that minimum, the fi rm shuts down in the short run. Note that shutting down is not the same as going out of business. A fi rm that shuts down keeps its productive capacity intact—paying the rent, fi re insurance, and property taxes, keeping water pipes from freezing in the winter, and so on. For example, auto factories sometimes shut down temporarily when sales are slow. Businesses in summer resorts often shut down for the winter. Th ese fi rms do not escape fi xed cost by shutting down, because fi xed cost by defi nition is not aff ected by changes in output.

If in the future demand increases enough, the fi rm will resume production. If market conditions look grim and are not expected to improve, the fi rm may decide to leave the market. But that’s a long-run decision. Th e short run is defi ned as a period during which some resources and some costs are fi xed. A fi rm cannot escape those costs in the short run, no matter what it does. A fi rm cannot enter or leave the market in the short run.

marginal revenue Thechange in total revenue from selling another unit of the good

155

Extend the ContentAt the time of this writing, there were only three important manufacturers of large passenger airplanes in the world: Boeing, Lockheed-Martin, and Airbus of Europe. The cost of designing a new passenger jet, constructing prototypes, and testing them before any sales are made is typically several billion dollars or more. Ask students to explain why there aren’t more of these fi rms. What does this situation have to do with fi xed costs, long-run average costs, and economies of scale?


Learning Through GraphicsUse Figure 5.12—Short-Run Sup-ply Curve for Hercules to illustrate the quantity supplied at each price. Point out the relationship between the supply curve in Figure 5.12 and the marginal cost curve in Figure 5.11. The supply curve is the upward-sloping portion of the fi rm’s marginal cost curve.

T E A C HCosts in the Short Run (continued)Explain that the newspaper own-ers have returned to profi tability by extending their circulation to the neighboring community. This increased their income to $13,000 per month, while their variable costs grew to $10,000. Ask students to calculate the marginal cost of producing and delivering an additional 2,500 papers ($1,000 / 2,500 = $.40). The fi rm was willing to supply additional newspapers because its marginal revenue exceeded its marginal costs. This expansion was so successful that the owners are thinking of adding yet another community to their circulation. To do this, they would have to rent a larger building. Ask students what this might do to the fi rm’s costs and its ability to earn a profi t. They should understand that if the fi rm rents a new building, this cost is no longer in the short run. The increased cost might eliminate the fi rm’s profi ts in the long run.


The Firm’s Supply CurveTo produce in the short run, the price must be high enough to ensure that

total revenue covers variable cost. Th e competitive fi rm’s supply curve is the upward sloping portion of its marginal cost curve at and above the minimum acceptable price. Th is supply curve shows how much the fi rm will supply at each price.

In the Hercules example, a price of $33.33 allows the fi rm to at least cover variable cost of moving 12 tons per day. Hercules’s short-run supply curve is presented in Figure 5.12 as the upward-sloping portion of the marginal cost curve starting at $33.33. At that price, Hercules supplies 12 tons of moving per day. At a price of $50 per ton, the company moves 14 tons, and at a price of $100 per ton, the company moves 15 tons. At a price of $100, the fi rm’s total revenue from supplying 15 tons is $1,500. Figure 5.10 indicated that the total cost of supplying 15 tons is $800, leaving the Hercules with a profi t of $700 per day.

Figure 5.12 shows the supply curve for an individual fi rm in the short run. Th e market supply curve sums the individual supply curves for all fi rms in the market.

Why does the fi rm’s marginal cost curve slope upward in the short run?

FIGURE 5.12 Short-Run Supply Curve for HerculesA competitive fi rm’s supply curve shows the quantity supplied at each price. The supply curve is the upward-sloping portion of its marginal cost curve, beginning at the fi rm’s minimum acceptable price. The minimum acceptable price, in this case $33.33 per ton, is the lowest price that allows the fi rm’s total revenue to cover its variable cost.

12 14 160

$100.00

50.00

33.33

Tons per day

Cost

per

ton

S

AnswerThe fi rm’s marginal cost curve slopes upward in the short run because of the initial fi xed costs associated with starting a business.



PRODUCTION AND COSTS IN THE LONG RUNSo far, the analysis has focused on how short-run costs vary with output for a fi rm of a given size. In the long run, all inputs can be varied, so there are no fi xed costs. What should be the size of the fi rm?

Economies of ScaleA fi rm’s owner would like to know how the average cost of

production varies as the size, or scale, of the fi rm increases. Aver-age cost equals total cost divided by output. A fi rm’s long-run average cost indicates the lowest average cost of producing each output when the fi rm’s size is allowed to vary.

If the fi rm’s long-run average cost declines as the fi rm size increases, this refl ects economies of scale. Consider some reasons for economies of scale. A larger fi rm often allows for larger, more specialized machines and greater specialization of labor. Typically, as the scale of the fi rm increases, capital substitutes for labor. Pro-duction techniques such as the assembly line can be introduced only if the fi rm is suffi ciently large.

Diseconomies of ScaleAs the scale of the fi rm continues to increase, however, another force may even-

tually take hold. If the fi rm’s long-run average cost increases as production increases, this refl ects diseconomies of scale. For example, Oasis of the Seas is the world’s largest cruise liner. Th e ship can accommodate 6,300 guests, but it’s too large to visit some of the globe’s most popular ports such as Venice and Bermuda.

More generally in a fi rm, as the amount and variety of resources employed increase, so does the task of coordinating all these inputs. As the workforce grows, additional layers of management are needed to monitor production. Information may not be correctly passed up or down the chain of command.

Movie theaters experience both economies and diseconomies of scale. A theater with one screen needs someone to sell tickets, usually another to sell popcorn, and yet another to run the movie projector. If a second movie screen is added, the same staff can perform these tasks for both screens. What’s more, contruction costs per screen are reduced because only one lobby and one set of rest rooms are required. By adding more screens, which have increased to an average 13 per theater in the United States, theaters take advantage of economies of scale.

Beyond some number, adding still more screens creates deseconomies of scale. Traffi c congestion around the theater may become gridlocked. Th e limited supply of popular fi lms will not support that many screens. Finally, scheduling becomes a challenge because only certain times are popular with the public.

economies of scaleForces that reduce a fi rm’s average cost as the fi rm’s size, or scale,increases in the long run

L 3Distinguish

between

economies and

diseconomies

of scale in the

long run.

157

T E A C HProduction and Costs in the Long RunPoint out that, as a rule, economies and diseconomies of scale occur for diff erent size fi rms in the long run, while increasing and diminishing returns can occur for fi rms of any given size in the short run.

Explain to students how econo-mies of scale may help explain the eff ectiveness of school size. For example a large school can off er more classes and programs. It can invest in specialized equipment and classes. It can hire specialized teachers. Its fi xed costs per student are lower. However, many believe that at some point large schools, like large businesses, suff er from diseconomies of scale. Critics of large schools point out that educa-tion becomes less personal, thus less eff ective, and that because of high demand and competition students fi nd themselves unable to participate in some activities. Ask the students to think of other examples where economies and dis-economies of scale can be applied to a high school education.

Extend the ContentMany communities in the United States have local governments that serve relatively small numbers of citizens. For example, as many as ten or more police agencies may exist in a single county. Ask students to discuss the economies of scale that might result from combining many police agencies into a single county-wide police force. Why do they think this combination does not happen very often? (Possible answer: A single police force would be more effi cient because it could share equipment, management, and other facilities. This is not often done because of political considerations. Local leaders generally want to control their own police force without being required to deal with people from other areas.)


Learning Through GraphicsUse Figure 5.13—A Firm’s Long-Run Average Cost Curve to illustrate the lowest average cost for producing each level of output.

T E A C HProduction and Costs in the Long Run (continued)Return to economies of scale and school size. Tell students that, like IBM and other large companies, educators struggle to determine a school’s minimum effi cient scale. Large schools have been split into two schools, as well as divided into smaller groups of students, often called “schools within schools.” Small schools around the country have been merged to make larger schools. Ask students to discuss what they believe to be the best size for a high school, how they might divide a large school, or what size is too small for a high school?


It is possible for long-run average cost to neither increase nor decrease with changes in fi rm size. If neither economies of scale nor diseconomies of scale occur as the scale of the fi rm expands, a fi rm experiences constant returns to scale over some range of production.

Long-Run Average Cost CurveFigure 5.13 presents a fi rm’s long-run average cost curve, showing the

lowest average cost of producing each rate of output. Th e curve is marked into segments refl ecting economies of scale, constant returns to scale, and disec-onomies of scale. Production must reach quantity A for the fi rm to achieve its minimum effi cient scale, which is the smallest scale, or size, that allows the fi rm to take full advantage of economies of scale. At the minimum effi cient scale, long-run average cost is at a minimum. From output A to output B, the fi rm experiences constant returns to scale. Beyond output rate B, diseconomies of scale increase long-run average cost.

Firms try to avoid diseconomies of scale. Competition weeds out fi rms that grow too large. To avoid diseconomies of scale, IBM divided into six smaller decision-making groups. Other large corporations have spun off parts of their operations to create new companies. HP started Agilent Technologies, and AT&T started Lucent Technologies.

long-run average cost curve A curve that indicates the lowest average cost of production at each rate of outputwhen the fi rm’s size is allowedto vary

FIGURE 5.13 A Firm’s Long-Run Average Cost CurveAverage cost declines until production reaches output level A. The fi rm is experiencing economies of scale. Output level A is the minimum effi cient scale—the lowest rate of output at which the fi rm takes full advantage of economies of scale. Between A and B, the economy has constant returns to scale. Beyond output level B, the long-run average cost curve refl ects diseconomies of scale.

BA0 Output per period

Long-runaverage cost

Economiesof scale

Constantreturns to scale

Diseconomiesof scale

Cost

per

uni

t

158

Common Core: Number and Operations—FractionsStandards 4.NF.3, 5.NF.1, 5.NF.2, 7.NS.1Introduce the feature by telling students that they will work with fractions in solving many types of economic prob-lems, such as determining fi xed, variable, and total costs.

Practice the Skill Answers1. The business needs 1 ton of coal to produce

500 pounds of steel bars. 3/4 + 1/4 = (3 + 1)/4 = 4/4 = 1

2. The fi xed costs are 3/10 of the total cost. 1 = 10/10, 10/10 − 7/10 = (10 – 7)/10 = 3/103. The variable costs are 6/7 of the total cost. 1 = 7/7, 7/7 − 1/7 = 6/74. As production grows, variable costs increase but

fi xed costs remain the same. Therefore, the share they represent of total costs will decline.



Common Core Number and Operations—FractionsWhen adding or subtracting fractions, the fractions must have a common denominator. If one of the fractions is 1, you can write it as a fraction of the common denominator over itself (Example: 1 = 5/5). Once the fractions have a common denominator, the answer is the sum or diff erence in the numerator over the common denominator. If the fraction is not in simplifi ed form, rewrite it in its simplest form.

EXAMPLE A business buys 1/5 of the coal it needs from one supplier and 2/5 from a diff erent supplier. What fraction of the coal the business needs must be bought from other sources?

SOLUTION The value 1 represents the amount of coal the business needs. Write a problem where each known fraction of coal purchased from suppliers is subtracted from 1.

1 − 1/5 − 2/5

The denominator of both fractions in the problem is 5. Write 1 as a fraction with the common denominator 5 in its numerator and denominator. Then subtract the numerators of the fractions. The denominator is 5.

5/5 − 1/5 − 2/5 = (5 − 1 − 2)/5 = 2/5

The business needs to purchase 2/5 of the coal it needs from other suppliers.

Practice the Skill Answer the following questions.

1. If it requires 3/4 of a ton of coal to produce 500 pounds of steel and 1/4 of a ton of coal to reheat the steel before it is rolled into bars, how much coal is required to produce 500 pounds of steel bars?

2. If 7/10 of a fi rm’s costs are variable, what fraction of its costs are fi xed?

3. If a fi rm’s variable labor costs equal 4/7 of its total cost of production and its fi xed costs equal 1/7 of its total cost of production, what fraction of its costs are variable?

4. Why will the fraction of a fi rm’s costs that are fi xed costs decline as it produces more output?

How are economies of scale and diseconomies of scale refl ected in a fi rm’s long-run average cost curve?

Th e long-run average cost curve guides the fi rm toward the most effi cient plant size for a given rate of output. However, once a plant of that scale is built, the fi rm has fi xed costs and is operating in the short run. A fi rm in the short run chooses the output rate where marginal revenue equals marginal cost. Firms plan for the long run, but they produce in the short run.

AnswerEconomies of scale occur when the fi rm’s long-run average cost declines as the fi rm size increases. This is refl ected by a downward sloping long-run average cost curve. Diseconomies of scale occur when the fi rm’s long-run average cost increases as the fi rm size increases. This is refl ected by an upward-sloping long-run average cost curve.


A S S E S SAssign all or part of Lesson 5.3 Assessment on page 160 as home-work or an in-class activity.



R E T E A C HExplain the following situation to your students. Harold owns a small business that manufactures shoelaces. He can sell as many pairs of laces as he can make at the price of $1 per pair. If he charges a higher price, no one will buy any of his laces. To produce more laces, he must ask his employees to work longer hours and pay them overtime. As a result, his variable costs per pair of laces grow as he produces more. Ask students to explain how Harold should decide when to stop making more shoelaces. (Harold’s marginal revenue for each additional pair of laces is $1. He should stop making more when the marginal cost exceeds $1.)


5.3 ASSESSMENT

Think Critically1. Possible answer: In the small

room, the three workers got in each other’s way and couldn’t work effi ciently. This demon-strates the law of diminishing returns because Tanya found that a third worker added noth-ing to her output.

2. This payment is a fi xed cost because she must make it no matter how many computers she repairs.

Graphing Exercise3. The graphs for this answer

appear at the bottom of this page. Tony needs to know what his marginal revenue for selling additional pizzas will be at diff er-ent levels of production. This will tell him when the marginal cost exceeds marginal revenue and when he should stop producing additional pizzas.

Make Academic Connections4. Possible answer: The fi rm’s

marginal revenue from staying open late at night is only $25 per hour. Its marginal revenue does not cover its marginal costs; therefore, the business should be closed at night.

Answers will vary. Students should distinguish between fi xed and vari-able costs. They may explain that if labor or fl our costs increase to the extent that variable costs exceed total revenue, the business would lose less by closing.


Working in small teams, make two lists of costs that a pizza restaurant might have. One should include its fi xed costs and the other, its variable costs. Explain why an increase in wages or in the cost of fl our might cause the business to close in the short run. Compare your team’s work with that of other teams.

TeamWork k ll k l f h h h h ldT W k

Think Critically 1. Tanya runs a computer repair business in a small room in her basement. Many people wanted

her to fi x their computers so she hired another worker, who doubled the number of com-puters she could fi x each day. But when she hired a third worker, she found that the total number of computers she could service hardly changed at all. Explain how this demonstrates the law of diminishing returns.

2. Tanya has borrowed more than $10,000 to buy special equipment she needs in order to repair computers. Is the $750 she pays each month to repay her loan a fi xed or a variable cost? Explain your answer.

Graphing Exercise 3. Draw a graph of fi xed cost, variable cost, and total cost, and then draw a second graph of

marginal cost for Tony’s Pizza, using the data in the table shown. What other information does Tony need in order to determine how many pizzas he should produce per week? Explain your answer.

5.3 ASSESSMENT

160

WEEKLY COST DATA FOR TONY’S PIZZA

Output Fixed Cost Variable Cost Total Cost Marginal Cost

0 $500 0 $ 500 —

10 $500 $1, 000 $1, 500 $100

20 $500 $1, 500 $2, 000 $ 50

30 $500 $1, 800 $2, 300 $ 30

40 $500 $2, 100 $2, 600 $ 30

50 $500 $2, 600 $3, 100 $ 50

60 $500 $3, 600 $4, 100 $100

Make Academic Connections 4. Entrepreneurship You own a gas station. You have found that the cost of keeping your

store open is $35 per hour for labor and electricity. Between midnight and 5:00 a.m., you sell only 100 gallons of gas per hour. Your markup on gas is $0.25 per gallon. Should you keep your business open all night? Explain your answer.

Visualizing the Answer—Graphing Exercise3. The answer includes two graphs. Stu-

dents’ graphs should look similar to the two shown here. An Excel spreadsheet containing these graphs, along with supporting data, is available on the Instructor’s Resource CD.

FIXED, VARIABLE, AND TOTAL COSTSFOR TONY’S PIZZA

0500

10001500200025003000350040004500

0 10 20 30 40 50 60Output

Cost

MARGINAL COST FOR TONY'S PIZZA

0

20

40

60

80

100

120

0 10 20 30 40 50 60 70Output

Cost

Fixed cost Variable cost Total cost



PRODUCTIVITY AND ACCOUNTABILITY

Making Decisions for the Long RunYou can think of your experience in school as an investment in your future. The more you learn now, the more you will be able to produce and earn in the future. But education is not free. The following are examples of costs you or your family pay for you to attend school.

• The cost of school supplies such as a graphing calculator or gym shoes

• The cost of transportation to and from school

• The forgone value of alternative uses of your time and eff ort

Society’s Costs for EducationAlthough students and their families pay signifi -cant costs for education, society in general pays even more. Consider the following public costs of education.

• The cost of building, equipping, and supplying schools

• The cost of heating, cooling, cleaning, and main-taining schools

• The cost of hiring teachers, administrators, and other school employees

Short-Run Costs and Long-Run Benefi tsWhen resources are allocated to schools, they result in short-run costs but yield long-run benefi ts. Imag-ine, for example, that enrollments in many classes at your school are very large. Your school could spend $1 million to hire 15 new teachers to reduce class size, but how much diff erence would this make? How could taxpayers know they would receive a reason-able benefi t in the future for their expenditure today?

One solution that has been tried is to make students and teachers accountable for their work. In recent years many states and the federal government have instituted testing programs to evaluate student progress. Additional resources have been allocated to those schools with higher student achievement as measured by the tests. Although this plan provides more resources to schools with higher scores, does this guarantee that students who attended these schools will be more productive members of society? Or is it possible that schools with students who did not score as well need additional resources even more? Unfortunately, it is diffi cult to measure the value of future benefi ts. We can only make choices based on logic and the best information available.

Long-Run Decisions in Your LifeThe skills that employers look for today are not likely to be the same skills they will seek 20 years from now. Today’s students will be forced to adapt to change throughout their lives. To accomplish this, it makes sense to learn fundamental skills such as reading, writing, mathematics, and communications—skills that can help you adjust to change and be produc-tive in tomorrow’s economy.

Apply the SkillImagine you are selecting your classes for next year. You have one more class to choose and have nar-rowed your choice down to two possibilities. One is a class in pre-calculus to prepare you to take other classes in higher mathematics. The other would teach you how to use a new operating system for home and offi ce computers. Decide which class would serve you best over the long run and explain three reasons for your choice.

Before assigning this feature, ask students what they think is the cost of their high school education, and who pays for it. Ask if these are long- or short-term costs and what the benefi t of an education is for them and for society.

Apply the SkillAnswers will vary. Some students will see the benefi t of enhanc-ing their math skills and select precalculus. Others, however, will not believe that additional math skills will aid them in their career choice. Those who choose to learn a new operating system will see it as a more practical skill. Some will argue that while the skill will be useful in the short run, computer systems change quickly and higher-level math skills may be a better, long-term choice. No matter which class students, choose remind them that it is diffi cult to know what particular skills will be needed in the future and that focusing on fundamental skills are the best choice for long-term success.



could be grown where it formerly had been cost pro-hibitive, enabling the American South to supply Great Britain’s growing demand for raw cotton. Within two years, cotton exports from the United States to Great Britain rose from 487,000 pounds to 6,276,300 pounds. Because Great Britain’s textile mills were demanding ever-increasing amounts of cotton, Southern planters were willing to move inland and devote more land and resources to producing cotton. The quantity of cot-ton supplied increased rapidly, keeping pace with the growing British cotton textile industry.

The British government, protective of its textile industry, passed laws preventing anyone with working knowledge of a textile mill from leaving the country. Despite that prohibition, an English textile mechanic, Samuel Slater, was attracted by a prize being off ered for information about the English textile industry. He disguised himself as a farm laborer and came to the United States. Slater established a mill at Paw-tucket, Rhode Island. Building machinery entirely from memory, he started the American textile industry on December 20, 1790. Still, American mills had a diffi cult time competing with British imports and could aff ord only cheaper cotton imported from the West Indies. Southern states sold all of their cotton at a higher price to English mills.

Think Critically What variable cost did the invention of the cotton gin allow Southern cotton producers to lower? How were the growers able to create “economies of scale”? Why do you think the American cotton mills, using essentially the same equipment, had diffi culty competing with the British cotton imports?

The increases in the production of cotton textiles in the late 1700s contributed to the Industrial Revolution. As production became more industrialized, suppli-ers of raw cotton were faced with heavy demand. In the United States, growing cotton was profi table only along narrow coastal strips of Georgia and the Carolinas. These were the only locations in which Sea Island cotton could be grown. Another strain of cotton, which could be grown in the interior, was unprofi table because it produced too many seeds, which had to be removed by hand. It took a day’s work to separate the seeds from the lint, making production too slow and too expensive to satisfy the demands of the industry.

Eli Whitney changed all this in 1793 with his inven-tion of the cotton gin. Whitney’s invention allowed one worker to produce what it had previously taken 50 workers, mostly slaves, to produce. Cotton now

The Industrial Revolution in England: The Supply of Cotton

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F O C U SReview with students how innova-tion and technology can impact the supply of a good. The cotton gin dramatically increased the supply of cotton available to the textile mills of Great Britain and transformed the economy of the South.

T E A C HInstruct students to read the Con-nect to History feature and answer the questions.

A S S E S SUse the questions at the bottom of the page to assess the students’ understanding of this feature.

Think Critically AnswerThe invention of the cotton gin allowed Southern producers to lower the variable cost of labor. The growers were able to create econo-mies of scale by lowering the long-run average cost curve through the invention of the cotton gin. The American cotton mills had trouble competing because they were using cheaper, thus lower-quality, cotton in their production of textiles.

BIBLIOGRAPHYCannon, John, ed. Oxford Companion to British History. New York: Oxford University Press, 1997.Carson, Thomas, and Mary Bonk, eds. Gale Encyclopedia of U.S. History. Detroit: Gale Group, 1999.Michl, H. E. The Textile Industries. Washington, DC: The Textile Foundation, 1938.Puth, Robert C. American Economic History. New York: The Dryden Press, 1988.Watkins, James. King Cotton: A Historical and Statistical Review. New York: Negro University Press, 1969.



Why can’t we feed the world from a

fl ower pot?

Chapter 5 Summary

5.1 The Supply CurveA. Firms are motivated to supply products out of their desire to earn profi t. The supply curve indicates

how much of a good producers are willing and able to offer for sale per period at each price, other things constant. The law of supply states that the quantity supplied is greater at a higher price than at a lower price, other things constant.

B. Businesses supply more as the price increases because they can shift resources from other products that now have relatively lower prices. Further, higher prices help producers cope with the higher marginal cost that results from increasing the quantity supplied. Individual supply is the relation between price and the quantity supplied by one fi rm in a market. Market supply is the relation between price and quantity supplied by all fi rms in a market.

C. Elasticity of supply is the relationship between a percent change in the price of a product and the resulting percent change in the quantity supplied. Supply may be elastic, unit elastic, or inelastic. As a general rule, the more diffi cult and costly it is to increase the quantity supplied, the less elastic is supply.

5.2 Shifts of the Supply CurveA. There are fi ve determinants of supply that can shift the location of a supply curve. They are (1) a

change in the cost of resources used to make the good, (2) a change in the price of other goods these resources could make, (3) a change in the technology used to make the good, (4) a change in the producers’ expectations, and (5) a change in the number of sellers in the market.

B. A change in the price of a product causes a movement along a supply curve. This is called a change in the quantity supplied. A change in a determinant of supply other than price causes the supply curve to move, or shift, to the left or right. This is called a change in supply.

5.3 Production and CostA. The short run is a period during which at least one resource cannot be changed, or is fi xed. Variable

resources can be changed in the short run. In the long run, all resources are variable.

B. The marginal product of an additional worker is the change in total production that results from employing that worker. As workers are added, a fi rm experiences fi rst increasing returns and then diminishing returns.

C. Fixed cost does not change with the amount produced. Variable cost is zero when output is zero and increases when output increases.

D. Marginal cost is the change in total cost when the fi rm produces one more unit of output. Marginal revenue is the change in total revenue when the fi rm sells one more unit of output. Businesses sell more output as long as the marginal revenue exceeds the marginal cost. In the short run, a fi rm’s supply curve is that portion of its marginal cost curve rising above the minimum acceptable price.

E. In the short run, a fi rm that is losing money will continue to produce as long as total revenue exceeds variable cost. A fi rm will shut down in the short run if variable cost exceeds total revenue.

F. In the long run, fi rms face economies and diseconomies of scale. The long-run average cost curve fi rst slopes downward as the size, or scale, of the fi rm expands, refl ecting economies of scale. At some point the long-run average cost curve may fl atten out, refl ecting constant returns to scale. As the size of the fi rm increases, the long-run average cost curve may begin to slope upward, refl ect-ing diseconomies of scale.

Summary

Consider• Why would a fi rm decide to store

its products in a warehouse rather than off er them for sale? See page 146— Change in Producer Expectations.

• When might hiring another worker actually reduce a fi rm’s output? See page 151—Law of Diminishing Returns.

• Can a fi rm shut down without going out of business? See page 155—Maximizing Profi t and Minimizing Loss.

• Why do movie theaters have so many screens? See page 157—Diseconomies of Scale.

• Why is bigger not always better when it comes to the size of a fi rm? See page 157—Disecono-mies of Scale.

ExamViewUse ExamView® to assess student learning.• Create a chapter test using ques-

tions from the existing test bank.• Add your own questions to the

existing test bank.• Generate multiple forms of a

chapter test.

Study SkillsOff er the following study skills sug-gestions for students as they review this chapter.• Outline the chapter.• Review key terms.• Review Checkpoints.• Work in pairs to quiz each other.

Online ResourcesDirect students to the online resources for this chapter at www.cengage.com/school/contecon• Ask the Expert• Crossword Puzzle• Flashcards• Graphing Workshop• Net Bookmark• Study Tools• Tutorial Quiz

A S K T H E E X P E R TEncourage students to listen to an expert answer the question, “Why can’t we feed the world from a fl ower pot?” Remind them to click on the link for Chapter 5.


163Chapter 5 S u p p l y

Review Economic Terms


a. economies of scale

b. elasticity of supply

c. fi xed cost

d. law of diminishing returns

e. law of supply

f. long run

g. long-run average cost curve

h. marginal cost

i. marginal product

j. marginal revenue

k. short run

l. supply

m. supply curve

n. total cost

o. total product

p. variable cost

164

CHAPTER 5 ASSESSMENT


Match the terms with the defi nitions. Some terms will not be used.

_____ 1. A period of time during which at least one of a fi rm’s resources is fi xed

_____ 2. The change in total revenue from selling another unit of a product

_____ 3. Any cost that does not change with the amount produced in the short run

_____ 4. A period of time during which all of a fi rm’s resources can be varied

_____ 5. The change in total cost resulting from producing one more unit of output

_____ 6. Any production cost that changes as output changes

_____ 7. A measure of the responsiveness of quantity supplied to a change in price

_____ 8. The change in total product that results from a one-unit increase of a resource

_____ 9. As more of a variable resource is added to a given amount of fi xed resources, marginal prod-uct eventually declines and could become negative

_____ 10. Forces that reduce a fi rm’s average cost of production as the fi rm’s size grows

_____ 11. The total output of a fi rm

_____ 12. A line showing the quantities of a particular good supplied at various prices during a given time period, other things constant

Review Economic Concepts

13. A shift of a product’s supply curve will be caused by each of the following excepta. an increase in the cost of the resources used to produce the product.b. an improvement in the technology used to produce the product.c. an increase in consumer demand for the product.d. a decrease in the price of other products that resources could be used to produce.

14. True or False If a product’s elasticity of supply is 0.8, a 2 percent increase in price will cause a greater than 2 percent increase in the quantity supplied.

15. Typically, the longer the period of time allowed for fi rms to adjust to a price change, the _______?_______ a product’s supply curve will be.

16. An increase in the price of a fi rm’s product will cause _______?_______ the fi rm’s supply curve.

17. Which of the following events would cause the supply curve to shift to the left?a. A fi rm’s employees negotiate a 5 percent increase in their wages.b. A fi rm’s managers buy new, more effi cient machinery for workers to use.c. A fi rm provides its workers with training to better use their tools.d. A fi rm fi nds a new, less expensive source of raw materials.


1. k. short run 2. j. marginal revenue 3. c. fi xed cost 4. f. long run 5. h. marginal cost 6. p. variable cost 7. b. elasticity of supply 8. i. marginal product 9. d. law of diminishing returns10. a. economies of scale11. o. total product12. m. supply curve


13. c. an increase in consumer demand for the product

14. False. If a product’s elastic-ity of supply is 0.8, a 2 percent increase in price will cause a smaller than 2 percent increase in the quantity supplied.

15. more elastic16. movement along17. a. A fi rm’s employees negoti-

ate a 5 percent increase in their wages.


Apply Economic Concepts


18. True or False In the long run, all costs of production are variable.

19. An increase in the cost of a product’s raw materials will cause the supply curve for that product to _______?_______.

20. If a fi rm experiences diminishing returns, it fi nds thata. there will be no increase in production when it hires another worker.b. the next worker hired will add less to production than the previous worker hired.c. it will earn no profi t if it hires additional workers.d. it must lay off workers to earn a profi t.

21. Which of the following is an example of a variable cost?a. the cost or wages for night security guardsb. the cost of fi re insurance for a fi rm’s factoryc. the cost of raw materials used to produce goodsd. the cost of electricity to operate a security alarm.

22. In the short run, _______?_______ cost does not change as a fi rm produces additional output.

23. True or False When a fi rm experiences diminishing returns, its marginal cost of production decreases as output increases.

24. If a 1 percent change in price results in a 2 percent change in the quantity of the product that is supplied, the supply of that product isa. elastic.b. unit elastic.c. inelastic.d. none of the above.

25. _______?_______ are forces that reduce a fi rm’s average cost of production as the fi rm grows in size.

26. In the long run, a fi rm willa. experience economies of scale if its long-run average cost curve slopes upward.b. experience diseconomies of scale if its long-run average cost curve slopes downward.c. experience diseconomies of scale if its long-run average cost curve slopes upward.d. experience constant returns to scale if its long-run average cost curve slopes upward.

27. True or False According to the law of supply, the quantity supplied will increase as the price of that product increases.


28. Accounting Classify each of the following costs as variable or fi xed. Explain your decision for each cost.

• The cost of a leased delivery truck• The cost of a night security service• The cost of delivering fi nished products• The cost of fi re insurance• The cost of electricity used to run production machinery

18. True19. shift to the left20. b. the next worker hired will

add less to production than the previous worker hired

21. c. the cost of raw materials used to produce goods

22. fi xed23. False. A fi rm’s marginal cost of

production increases as output increases.

24. a. elastic25. economies of scale26. c. experience diseconomies of

scale as its long-run average cost curve slopes upward

27. True

28. Leased delivery truck—fi xed (this must be paid regardless of production)

Security service—fi xed (this must be paid regardless of production)

Delivering fi nished prod-ucts—variable (this cost will increase with production)

Fire insurance—fi xed (this must be paid regardless of production)

Electricity—variable (this cost will increase with production)


165Chapter 5 S u p p l y


SUPPLY ELASTICITY OF BAGELS

Price per Dozen Percent Change

Quantity Supplied

Percent Change Elasticity

Elastic/Inelastic

$8 — 100 — — —

$7 12.5% 90 10.0% _____ _____

$6 14.3% 80 11.1% _____ _____

$5 16.6% 70 12.5% _____ _____

$4 20.0% 60 14.3% _____ _____

$3 25.0% 50 16.6% _____ _____

29. Calculating Elasticity of Supply Complete the table below by calculating each missing elasticity of supply value. Is the supply elastic or inelastic?

Digging Deeper with Economics e-Collection

Technology used to make goods and services affects production costs and profi t opportuni-ties for suppliers of goods. Access the Gale Economics e-Collection through the URL below to fi nd articles that identify trends in production technology. Make a list of three to fi ve new technologies. For each technology, name the industries that will use the technology and the specifi c products or services it will produce.


30. 21st Century Skills: Productivity and Accountability Most young people today are able to use a wide variety of electronic devices. In most cases they acquired the necessary skills without completing any formal classes. Write a few paragraphs that describe how you learned to use a specifi c electronic device. Discuss how you could have learned these skills more easily. Why will learning how to use new electronic devices continue to be important in your future?

29. The completed table (Supply Elasticity of Bagels) appears at the bottom of this page.

30. Answers will vary. Student paragraphs should identify a specifi c electronic device they use, explain how they learned to use it, and why they will need to continue to learn about new devices and technologies in the future.


Digging Deeper

Tell students that the plow may have been the fi rst piece of technol-ogy to have a signifi cant aff ect on humans. Other technologies throughout history that had a profound eff ect include the printing press, the telephone, the radio, the automobile, and the computer. By completing the “Digging Deeper” activity, students may come across the next new technology that will change the way we live.

29. The completed table appears here. Supply Elasticity of Bagels

PricePercentage

ChangeQuantity Supplied

Percentage Change Elasticity

Elastic/Inelastic

$8 — 100 — — —

$7 12.5% 90 10.0% 0.80 inelastic

$6 14.3% 80 11.1% 0.78 inelastic

$5 16.6% 70 12.5% 0.75 inelastic

$4 20.0% 60 14.3% 0.72 inelastic

$3 25.0% 50 16.6% 0.66 inelastic


chapter chapter 5 overview supply - air academy · pdf filechapter overview lesson 5.1 the...

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