Economics (NCERT) Notes

4.8 Determinant of a Firm’s supply curve

Determinant of supply curve
•A supply curve indicates the relationship between price and quantity supplied. It shows the quantities that a seller is willing to sell at different prices.
•A firm’s supply curve is a part of its marginal cost curve.
•Any factor that affects a firm’s marginal cost curve is of course a determinant of its supply curve.
•We discuss two such factors.
     1. Technological Progress
     2. Input Prices
 
1. Technological Progress
•Let a firm uses two factors of production ( capital and labour ) to produce a certain good.
•Subsequent to an organisational innovation by the firm, the same levels of capital and labour now produce more units of output.
•To produce a given level of output, the organisational innovation allows the firm to use fewer units of inputs.
•Innovation lowers the firm’s marginal cost at any level of output;  
 
Impact of Innovation
•Innovation lowers the firm’s marginal cost at any level of output;
•Hence, there is a rightward (or downward) shift of the MC curve.
•As the firm’s supply curve is essentially a segment of the MC curve, technological progress shifts the supply curve of the firm to the right.
•At any given market price, the firm now supplies more units of output.
 
2. Input Prices
•A change in input prices also affects a firm’s supply curve.
•If the price of an input (say, the wage rate of labour) increases, the cost of production rises.
•The consequent increase in the firm’s average cost at any level of output is usually accompanied by an increase in the firm’s marginal cost at any level of output;
 
Input Cost and
•When the firm’s marginal cost at any level of output increases, there is a leftward (or upward) shift of the MC curve.
•This means that the firm’s supply curve shifts to the left:
•Hence, at any given market price, the firm now supplies fewer units of output.
 
Impact of a unit tax on supply
•A unit tax is a tax that the government imposes per unit sale of output. 
•Before the unit tax is imposed, LRMC0 and LRAC0 are, respectively, the long run marginal cost curve and the long run average cost curve of the firm.
•Let the government puts in place a unit tax of Rs t.
•Since the firm must pay an extra Rs t for each unit of the good produced, the firm’s long run average cost and long run marginal cost at any level of output increases by Rs t.
•In Figure, LRMC1 and LRAC1 are the long run marginal cost curve and the long run average cost curve of the firm upon imposition of the unit tax.
 
Long run supply curve of the firm
•The long run supply curve of a firm is the rising part of the LRMC curve from and above the minimum LRAC together with zero output for all prices less than the minimum LRAC.
•Hence, S0 and S1 are the long run supply curve of the firm before and after the imposition of the unit tax.
 
Shift of Supply Curve due to unit tax
•Hence, due to rise in the unit tax, firm’s long run supply curve shifts to the left:
•At any given market price, the firm now supplies fewer units of output.
 

 




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