No Free Lunch: Economics for a Fallen World: Third Edition, Revised

Chapter Four: Supply 96 Let’s say that GM comes out with a hot new Camaro SS with a 650 horsepower LT4 engine and the quantity demanded for the car exceeds the sticker price. We’ll see this process in action in the next chapter (Markets in Action). For now you only need to know that dealers can charge more than sticker price, and GM has an incentive to supply more. Will the quantity supplied rise substantially, or a relatively small amount? An understanding of the elasticity of supply for a product will help answer this question. One response would be to work employees overtime to increase production (more below). However, this will only generate so much additional production without increasing the physical plant. If GM plants that produce Camaros also produce Impalas, it is possible to reduce the number of Impalas and increase Camaro production. In this case, Camaros and Impalas are substitutes in production. The more substitutes in production there are for a good or service, the more elastic the supply curve is; if there are fewer substitutes in production, the more inelastic the supply curve is. The time horizon under consideration for the supply curve to adjust to changing prices is also critically important. Consider three different time horizons: ECONOMIC TIME HORIZONS • Market Period: A period where no supply inputs can be changed. • Short Run: A period where variable supply inputs can be changed. • Long Run: A period where all production inputs are variable. In the market period, supply is what supply is —no changes are possible. Perhaps you’ve seen this at your favorite restaurant; you wanted the fresh fish and it was already sold out. For the most part, a restaurant has a planned availability of supply of the items the proprietor believes will sell. To carry additional supply would be to risk spoilage and increase costs to all customers. Now I do not want to quibble—this is only approximately true. As we learned earlier, every demander can be a supplier. One can imagine your lament at the lack of fresh fish, and the customer beside you who just received the last plate of fresh fish may say “I’ll sell you mine for $100.” The point is that in general there is no adjustment in the market period. The supply curve in this period is virtually perfectly inelastic. In the short run, as we saw with our Camaro example, we can increase the use of variable production inputs such as labor to increase production. By increasing variable P ($) Q (#) S 1 S 2 Figure 4.7, Elasticity of Supply. Both supply curves follow the Law of Supply and slope upward. The demand curve S 1 is very steeply sloped, and is a very Inelastic supply curve—which means the quantity supplied is relatively insensitive to price changes. The Elastic supply curve S 2 has a more gentle slope, and the quantity supplied is relatively sensitive to price changes.