SUPPLY

Supply means the amount offered for sale at a given price. Supply is the quantity of goods and services that
a producer is willing and able to produce for market transaction at a given price in a given time period.

Law of Supply:
Supply is directly related with price. Other things remaining the same if price of a commodity increases
supply will increase and if price falls its supply will be decreased. The quantity offered for sale varies
directly with price, i.e., the higher the price the larger is the supply, and vice versa.

Supply Schedule:
Supply schedule shows the various quantities of goods supplied at various prices in a schedule. The supply
schedule is shown here. It is seen that when price is TK 5 supply is 4 kg. When price increases to TK 10 the
amount of supply increases to 6 kg. So, as the price falls, the amount supplied decreases.

Supply Curve
Graphical representation of a supply schedule is called supply curve. It shows how the quantities supply
varies with the variation in price. In figure quantities supplied are measured along X axis and prices along
Y axis and SS is the supply curve. It is shown that at price OP, 0M quantity is supplied. At OPI the quantity
supplied is ON and at OPII quantity is OL. It should be noted here that supply curve slopes downwards from
right to left. The reason is that as price rises supply is extended and vice versa.

Contraction and extension in supply

When supply is decreased due to fall in price is called contraction in supply. When supply is increased
due to rise in price is called extension in supply. In such cases consumer moves along the same supply
curve.

DETERMINANTS OF SUPPLY
a) Price of the commodity-
  Other thing being constant, Higher the price of the commodity, larger will be the supply and smaller
quantity will be supplied at a lower price. At higher price the producer/firm now expects to earn
larger profit and will thereby get motivated to increase the supply of the commodity.
 Movement along the supply curve happens due to change in the price of the good and resulting
change in the quantity supplied at that price. For instance, an increase in the price of the good from
PI to P2 in the figure below results in an increase of quantity supplied of the good from QI to Q2.
This movement from point A to point B on the supply curve S due to change in price of the good all
other factors Of supply remaining unchanged is called movement along the supply curve.
b) Cost of production;
c) Weather and methods;
d) Improvement in techniques;

e) Taxation;
f) Communication and transport;
g) Political disturbances;
h) Agreement among the producers;
i) Goals if the producing firms;
j) Price of that commodity;
k) Number of seller;
l) Sellers’ price expectation;
m) Trade policy;
n) Prices of the goods;

Characteristics of Production Function and Law of Diminishing Returns

Production
Production means creation of utility. But in economics it means transformation of input into output.

Production function:
A production function is the technical relationship between inputs of production and outputs of the firm.
So the production function expresses the functional relationship between input and output per unit of time.
Symbolically, a production function can be written as Y=f(x1, x2, x3,.…, xn-1|xn)

Where, Y = Output
F = functional relationship
x2…..xn-1= different variable inputs

xn = Fixed input

Types of production function:

I. Short run production function
 a) Fixed factor — budding machinery

b) Variable factor-Labour, raw material

II. Long run production function: variable factor

Types of product
I. Total Physical product (OPP):
It is the sum of total quantity or output produced by ail the units or variable factor along with some units
of fixed factor.
2. Average Physical Product (APP):
It is the average amount of output produced by each corresponding unit of is obtained by dividing the total
output at a given level by the number of units of input applied at the corresponding level
APP= Total physical product/ Input level =Y/X
Table1. Total Average and Marginal physical product

3. Marginal physical product (MPP):

The term marginal means "extra". The marginal product of an input is the extra product or output added
by one extra unit of that input while other inputs are held constant. Table-I shows the Marginal physical
product of labour start at 2000 for first unit of labour, then fall to only 100 units for the fifth unit.
Symbolically: MPP=

Three Stages of Production

The law of diminishing returns/ law of variable proportion
If more and more of a variable input are applied to some fixed inputs, the total physical product (TPP)
initially increases at an increasing rate but beyond a certain level of output, it increases at a diminishing
rate and finally decreases. More precisely, if some factors are held constant and more and more units of a
variable factor are employed, the marginal physical product (MPP) initially increases, then decreases and
eventually turns negative.

Assumptions of the law of diminishing returns

The of variable proportions as state under the following conditions
 Firstly, Technology remains constant.
 Secondly, there must be some inputs whose quantity is kept fixed. This law does not apply in case
all factors are proportionately varied.
  Thirdly, the low does not apply to those cases where the factors must be used in fixed proportions
to yield a product.

Three stages of the law of variable proportion/ law of diminishing returns:

In order to understand these three stages it is better to tabular and graphically illustrates the production
function with one factor variable. The production function is Y=f(x1|x2,x3,…..,xn)
Where, Y= Output
f denotes functional relationship
X1= variable input, X2....Xn= Fixed inputs
‘|’ it separates variable resource from fixed resources
This is done in table-2 and fig. 1.
Table-2: Units of input and corresponding Total, Average and Marginal Physical Product

In the figure, on the X-axis is measured the quantity of variable factor and the Y-axis are measured the total
physical product (TPP), average physical product (APP) and marginal physical product (MPP). How TPP,
APP and MPP changes as a result of the increase in quantity of variable input. It will see in Table-2 and Fig.
1.

Characteristics
Stage/Region/Zone I: Stage of increasing return:
 It starts from the origin and ends at the point where MPP=APP
 In this zone, MPP>APP
 Average Physical Product increases throughout this zone.
 MPP is increasing up to tie point of inflection and then declines.
 TPP increases at increasing rate up to the point of inflection and then increases at decreasing rate
  Elasticity of production is greater than one up to maximum Average Physical Product (APP).
 Elasticity of production is one at the end of the zone (MPP APP).
 The technical efficiency of variable resource is increasing throughout this zone as indicated by
Average Physical Product
 The technical efficiency of fixed resource is also increasing as reflected by the increasing Total
Physical Product.
 This is irrational or sub-optimal zone of production.
 This zone ends at the point where MPP=APP or where APP IS Maximum.

Stage/Region/Zone II: Stage of diminishing returns:

 The second zone starts from where technical efficiency of variable resource is maximum i.e., APP
is Maximum (MPP=APP)
 In this zone, Marginal Physical Product is less than Average Physical Product. Therefore, the APP
decreases throughout this zone.
 Marginal physical product is decreasing throughout this zone.
 As the MPP declines, the Total Physical Product increases but at decreasing rate.
 Elasticity of production is less than one between maximum APP and maximum TPR
 Elasticity of production is zero at the end of this zone.
 The technical efficiency of variable resource is declining as indicated by declining APP.
 The technical efficiency of fixed resource is increasing as reflected by increasing TPP.
 This is rational zone of production in which the producer should operate to attain his objective of
profit maximization.
 This zone ends at the point where Total Physical Product is maximum or Marginal Physical Product
is zero.

Stage III: Stage of negative returns:

 This zone staffs from where the technical efficiency of fixed resource is maximum (TPP is Max).
 Average Physical Product is declining but remains positive.
 Marginal Physical Product becomes negative.
 The Total Physical Product declines at faster rate since MPP is negative.
 Elasticity of production is less than zero (Ep<0)
 The technical efficiency of variable resource is decreasing as reflected by declining APP.
 The technical efficiency of fixed resource is also decreasing as indicated by declining TPP.
 This zone is irrational or supra-optimal zone.
 Producer should never operate in this zone even if the resources are available at free of cost

Where will a rational producer operate his production? In which stage, the producer will
choose for production?
A producer will never choose the 3rd stage to produce where marginal physical product (MPP) of variable
factor is negative. Because, TPP is decreasing at increasing rate and MPP is negative. Since the additional
quantities of resource reduce the total output, it is not profitable zone. In case if a farmer operates in this
zone, he will incur double loss. i.e., Reduced Production and Unnecessary additional Cost of inputs.
A rational producer will also not choose to produce in stage one because he producing in stage one means
he will not be utilizing fully the opportunities of increasing production by increasing quantity of variable
factor whose continues to rise throughout the stage one- Thus, producer Will not stop in stage one but he
will expand further. The technical efficiency of variable resource is increasing throughout the zone (APP is
increasing). Therefore, it is not reasonable to stop using an input when its efficiency is increasing. This
zone is called irrational zone of production.
It is clear that the rational producer will not choose to produce in stage 1 and stage 3. Thus stage 1 and 3
express the non economic region in production function. Within the boundaries of this region is the area
of economic relevance. Optimum point must be somewhere in this rational zone.

Cost Concept
Meaning of short run and long run
Short run is the period of time within which the firm can vary its output by varying only the amount of
variable factors such as and raw materials. Fixed factors such as capital equipment cannot vary.
On the other hand, long run is a period of time during which the quantities of all factors, variable as well as
fixed factors can be adjusted.

Fixed cost:
These are costs which do not vary as output varies. Fixed costs not influenced by changes in output. Fixed
cost remains constant as use increases. Whether a firm is working at full capacity or half capacity these
costs will be unaffected. Indeed, fixed costs are the costs which have to be paid even when output is zero.
Sometimes these costs are called overheads or indirect costs.

Variable cost:
These are the costs which are directly related to output and so change
when output changes Example: the wages of the costs of raw materials
and fuel and power. Variable costs are sometimes referred to as direct or
prime costs. Variable costs are not incurred when output is zero. In the
long nun all costs are variable.

Total costs:
Short total costs represent the sum of fixed and variable costs. When output is zero, total costs will be equal
to fixed costs since variable costs will be zero. When production commences, total costs will to rise as
variable costs start to increase.

Symbolically, TC= TFC+ TVC

Average cost: Average cost is total costs divided by output, AC=TC/Q

Average fixed cost
Average fixed cost equals total fixed costs divided by the level of output. As total fixed cost is constant,
average fixed cost must fall with output.

AFC= TFC/Q

Average variable cost:

Average variable cost is total variable cost divided by output. The average variable cost curve is U-shaped.
AVC=TVC/Q

Marginal cost:
Marginal cost is addition to the total cost caused by producing one more unit of output. More precisely,
marginal cost is the change in total costs when output is changed by one unit.
 ELASTICITY OF DEMAND
A measure of the responsiveness of one item to changes in another item.
Price elasticity of demand is the ratio of percentage change in quantity demanded to the
percentage change in price. Elasticity expresses the degree of relationship between price
and demand.
Types of Elasticity
1. Price elasticity of demand
2. Income elasticity of demand
3. Cross elasticity of demand
1. Price elasticity of demand
Alfred Marshall "Elasticity of demand may be defined as the percentage change in
quantity demanded to the percentage change in price"

Proportional/Percent age/Relati ve change in demand

Price elasticity of demand=
Proportional/Percent age/Relati ve change in price

Price elasticities are almost always negative, although analysts tend to ignore the sign
even though this can lead to ambiguity.
2. Income elasticity of demand
Income elasticity of demand measures the responsiveness of demand due to changes in
income keeping other things like price and other prices constant. It is the ratio of
percentage or proportional change in demand in response to a percentage or proportional
change in income.
Proportional/Percent age/Relati ve change in demand
Income elasticity of demand=
Proportional/Percent age/Relati ve change in income

Income elasticity greater than one means that it is a superior commodity, less than zero
i.e. negative means that the good is inferior and 0-1 means that is a normal good.
3. Cross elasticity of demand
Cross elasticity of demand measures the responsiveness of demand of a commodity due to
changes in price of its substitute or complements keeping other things like income and
prices constant.
Proportional/Percent age/Relati ve change in demand of commodity X
Cross elasticity of demand=
Proportional/Percent age/Relati ve change in price of commodity Y

Cross elasticity having a positive sign means that products are substitute. On the other
hand cross elasticity having a negative sign means that products are complements.
DEGREES OF PRICE ELASTICITY
i. Perfectly elastic Demand /Infinite elasticity
Perfectly elastic demand is said to happen when a little change in price leads to an infinite
change in quantity demanded. A small rise in price on the part of the seller reduces the
demand to zero.
ii. Perfectly inelastic Demand/ Zero elasticity
Perfectly inelastic demand is opposite to perfectly elastic demand. Under the perfectly
inelastic demand, irrespective of any rise or fall in price of a commodity, the quantity
demanded remains the same. The elasticity of demand in this case will be equal to zero.
In this figure, DD shows the perfectly inelastic demand.
iii. Unit elasticity/ Unitary elastic demand
The demand is said to be unitary elastic when a given proportionate change in the price
level brings about an equal proportionate change in quantity demanded, The numerical
value of unitary elastic demand is exactly one
iv. Elasticity greater than one/ relatively elastic demand
Relatively elastic demand refers to a situation in which a small change in price leads to a
big change in quantity demanded.
v. Elasticity less than one/ relatively inelastic demand
Under the relatively inelastic demand a given percentage change in price produces a
relatively less percentage change in quantity demanded. In such a case elasticity of
demand is said to be less than one
FACTORS DETERMINING PRICE ELASTICITY OF DEMAND
1. Nature of the commodity:
 Necessaries of Life: For necessaries of life the demand is inelastic because people
buy the required amount of goods whatever their price.
 Conventional Necessaries: The demand for conventional necessaries is less
elastic or inelastic. People are accustomed to the use of goods like intoxicants which
they purchase at any price.
 Luxury Commodities: The demand for luxury is usually elastic as people buy
more of them at a lower price and less at a higher price
2. Substitutes: Demand is elastic for those goods which have substitutes and inelastic for
those goods which have no substitutes.
3. Number of Uses: Elasticity of demand for any commodity depends on its number of
uses. Demand is elastic;
4. Postponement: Demand is more elastic for goods the use of which can be postponed.
The use of medicines cannot be put off. Hence, the demand for medicines is inelastic.
5. Raw Materials and Finished Goods: The demand for raw materials is inelastic but
the demand for finished goods is elastic.
6. Price Level: The demand is elastic for moderate prices but inelastic for lower and
higher prices. The rich and the poor do not bother about the prices of the goods that they
buy.
7. Income Level: The demand is inelastic for higher and lower income groups and elastic
for middle income groups.
8. Habits. If consumers are habituated of some commodities, the demand for such
commodities will be usually inelastic. It is because that the consumer will use them even
their prices go up.
9. Nature of Expenditure. The elasticity of demand for a commodity also depends as to
how much part of the income is spent on that particular commodity. The demand for such
commodities where a small part of income is spent is generally highly inelastic
10. Distribution of Income: If the income is uniformly distributed in the society, a small
change in price will affect the demand of the whole society and the demand will be elastic.

MEASUREMENT OF PRICE ELASTICITY OF DEMAND

1. Total Expenditure Method/ Total outlay method
2. Proportionate Method/ Percentage method
3. Geometric Method
Total Outlay = Price x Quantity Demanded.
There are three possibilities:
1. If p↓(dd↑) the total expenditure ↑ or with a p ↑ (dd ↓) the total expenditure ↓, in that
case the elasticity of demand is greater than one.
2. If with a ↑ or ↓ price (dd ↓ or ↑ respectively), the total expenditure remains the same,
the demand will be unitary elastic.
3. With a p↓(dd↑) , the total expenditure also↓, and with a p ↑ (dd ↓) the total expenditure
also rises, the demand is said to be less elastic or elasticity of demand is less than one.

Total Expenditure Method/ Total outlay method

Price Quantity Demanded Total Outlay/Total Elasticity of demand

(P) (Q) expenditure (Ed)

10 1 10

9 2 18 Ed > 1

8 3 24
 7 4 28

6 5 30
Ed = 1
5 6 30

4 7 28

3 8 24
Ed< 1
2 9 18

1 10 10

Proportionate Method/ Percentage method

Zero elasticity: If demand does not response with the change in price that means if
change in demand is zero percent with the change in price then the elasticity will be equal
to zero.
Elasticity greater than one: If the percentage change in demand is greater than
percentage change in price then the elasticity will be greater than one.
Elasticity less than one: If the percentage change in demand is less than percentage
change in price then the elasticity will be less than one.
Unit elasticity: If the percentage change in demand and percentage change in price
become equal then it is called unit elasticity.
Infinite elasticity: If demand is changed without the change in price that means if the
change in price is zero percent but demand is increased or decreased then it is called
infinite elasticity.

Geometric Measurement
 Production
Meaning of production
Production means creation or addition of value. In economics production is generally
understood as the transformation of inputs into outputs.
Production function
A production function is the technical relationship between the inputs of production and
output of the firm. The relationship is such that the level of output depends on the level of
inputs used.
Y= ƒ(X1 X2, X3, .......,Xn-1 |Xn)
Total Physical Product (TPP)
It is the total amount of output obtained by using different units of inputs, measuring in
physical units like quintal, kg etc.
Average Physical Product (APP)
It is the average amount of output produced by each corresponding unit of input.
APP = Total Physical Product/ Input level
= Y/X
Marginal Physical Product
The term marginal means “extra”. The marginal product of an input is the extra product
or output added by one extra unit of that input while other inputs are held constant.
Symbolically: MPP = ΔY/ΔX

Relationship between Total Product (TPP) and Marginal Product (MPP):

1. When TPP increasing, the MPP is positive.
2. When TPP remains constant, the MPP is zero.
3. When TPP decreases, MPP is negative.
4. As long as MPP increases, the TPP increases at increases at increasing rate.
5. When the MPP remains constant, the TPP increases at constant rate.
6. When the MPP declines, the TPP increases at decreasing rate.
7. When MPP is zero, the TPP is maximum.
 8. When MPP is less than zero (negative), TPP declines at increasing rate.
Relationship between Marginal and Average Product
a) When MPP is more than APP then APP increases.
b) When MPP is equal with the APP then APP is Maximum.
c) When MPP is less than APP then APP decreases.
The law of variable proportions/ the law of diminishing return
If more and more of a variable input are applied to some fixed inputs, the total physical
product (TPP) initially increases at an increasing rate but beyond a certain level of output,
it increases at a diminishing rate and finally decreases.
More precisely, if some factors are held constant and more and more units of a variable
factor are employed, the marginal physical product (MPP) initially increases, then
decreases and eventually turns negative.
Assumptions of the law of diminishing returns
 Firstly, the state of technology is assumed to be given and unchanged.
 Secondly, there must be some inputs whose quantity is kept fixed. This law does
not apply in case all factors are proportionately varied.
 Thirdly, the low does not apply to those cases where the factors must be used in
fixed proportions to yield a product.
Three stages or regions of production
The law of variable proportions refers to three stages or regions of production-
 increasing return stage (Stage I)
 diminishing returns stage (Stage II)
 negative returns stage (Stage III)
Input (X) Output APP MPP Stage of
(Y) (X/Y) (ΔY1/Δ X1) Production
0 0 - -
1 5 5 5
I
2 14 7 9
3 21 7 7
4 27 6.75 6
5 32 6.20 5
6 36 6 4
II
7 39 5.57 3
8 41 5.12 2
9 41 4.56 0
10 38 3.8 -3
11 33 3 -5 II
26
12 26 2.2 -7
Stage I: Stage of increasing return
1. It starts from the origin and ends at the point where, MPP=APP
2. In this zone, MPP > APP and hence APP increases throughout this zone.
3. MPP is increasing up to the point of inflection and then declines.
4. Since the MPP increases up to the point of inflection, the TPP increases at
increasing rate.
5. After the point of inflection, the TPP increases at decreasing rate.
6. ep > 1 up to maximum APP and ep =1 at the end of the zone (MPP = APP).
7. In this zone fixed resources are in abundant quantity relative to variable resources
8. The technical efficiency of variable resource is increasing throughout this zone as
indicated by Average Physical Product.
9. The technical efficiency of fixed resource is also increasing as reflected by the
increasing TPP
10. This is irrational or sub-optimal zone of production.
11. This zone ends at the point where MPP=APP or where APP is Maximum.
Stage II. Stage of diminishing returns:
1. The second stage starts from where the technical efficiency of variable resource is
maximum i.e., APP is Maximum (MPP=APP)
2. In this zone, MPP < APP. Therefore, the APP decreases throughout this zone.
3. MPP is decreasing throughout this zone.
4. As the MPP declines, the TPP increases but at decreasing rate.
5. ep < 1 between maximum APP and maximum TPP.
6. ep =0 at the end of this zone.
7. The technical efficiency of variable resource is declining as indicated by declining
APP.
8. The technical efficiency of fixed resource is increasing as reflected by increasing
TPP.
9. This is rational zone of production in which the producer should operate to attain
his objective of profit maximization.
10. This zone ends at the point where TPP is maximum or MPP is zero.
Stage III. Stage of negative returns
1. This zone starts from where the technical efficiency of fixed resource is maximum
(TPP is Max).
2. APP is declining but remains positive.
3. MPP becomes negative.
4. The TPP declines at faster rate since MPP is negative.
5. Ep < 0
6. In this zone, variable resource is in excess capacity.
7. The technical efficiency of variable resource is decreasing as reflected by declining
APP.
8. The technical efficiency of fixed resource is also decreasing as indicated by declining
TPP.
9. Marginal Value Product is less than Marginal Factor Cost (MVP < MFC)
10. This zone is irrational or supra-optimal zone.
11. Producer should never operate in this zone even if the resources are available at
free of cost.
Where will a rational producer operate his production? / In which stage, the
producer will choose for production?)
A producer will never choose the 3rd stage to produce where marginal physical product
(MPP) of variable factor is negative. Because, TPP is decreasing at increasing rate and
MPP is negative. Since the additional quantities of resource reduce the total output, it is
not profitable zone. In case if a farmer operates in this zone, he will incur double loss. i.e.,
Reduced Production and Unnecessary additional Cost of inputs
A rational producer will also not choose to produce in stage one because he producing in
stage one means he will not be utilizing fully the opportunities of increasing production by
increasing quantity of variable factor whose continues to rise throughout the stage one.
Thus, producer will not stop in stage one but he will expand further. The technical
efficiency of variable resource is increasing throughout the zone (APP is increasing).
Therefore, it is not reasonable to stop using an input when its efficiency is increasing. This
zone is called irrational zone of production.
It is clear that the rational producer will not choose to produce in stage 1 and stage 3. Thus
stage 1 and 3 express the non-economic region in production function. Within the
boundaries of this region is the area of economic relevance. Optimum point must be
somewhere in this rational zone.
A rational producer will always want to produce in stage 2 where both MPP and APP of
variable factor are diminishing. The stage 2 represents the range of rational production
decision.