The Supply Curve Shifts

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- [Prof. Alex Tabarrok]
Now that you've got the basics

of the supply curve down,

we'll jump into factors
which shift the supply curve.

Here's the same list
I showed you before

of important supply shifters.

Remember, the most basic one
is a change in costs.

So really the only question is,

how does technological
innovations change costs?

How do input prices change costs?

Taxes and subsidies,
expectations,

entry or exit of producers.

Once we understand
how these different elements

affect a firm's costs

then we know

how the supply curve
is going to shift.

By the way,
I've given you a list here

but the goal is not
to memorize the list.

The goal is to understand.

And once we do that

then we'll be able to figure out

how any factor
affects the supply curve.

Okay, let's do some examples.

A technological innovation
lowers costs

and therefore increases the supply.

That means that sellers
are willing to supply

a greater quantity

at a given price,

or, equivalently,
they're willing to sell

a given quantity
at a lower price.

So let's imagine that we have
some genetically modified seeds.

What's the effect on supply?

We'll assume that the seeds,
for example, require less fertilizer.

So let's graph out
what the effect of this innovation

would be on supply.

Here's our old supply curve
with the old seeds.

Now we have the innovation.

We have genetically modified seeds
which require less fertilizer

and create a reduction in cost.

What does that do to supply?

It increases supply
and that means

that the supply curve
moves down and to the right.

Why?

Well, just read off what this means.

An increase in supply means

that for any given quantity

the firm is now
willing to sell that quantity

at a lower price than before,

since their costs have fallen.

The minimum price
that firms require

in order to sell this quantity
has decreased.

In fact the minimum price
that firms require

to sell any quantity
has decreased.

Equivalently, at any price,

now that their costs have fallen

the firms are willing to sell more
at that particular price.

That's what
an increase of supply means.

These genetically modified seeds --

they've reduced cost
and that increases supply.

Let's look at another
important supply shifter,

changes in input prices,

and let's do in this case
a decrease in supply.

An increase
in the price of an input

will decrease supply.

For example,

if the government were to increase
environmental regulations

and requirements on gasoline,

that's going to cause
a decrease in supply.

It doesn't mean
that the government

shouldn't do that.

Maybe it's worthwhile,

but that will be
the effect on supply.

Let's take a look.

Here's our old supply curve.

Now we have increased
rules and regulations

which increase costs,

or there's an increase
in the price of some input

that reduces supply.

Reductions in supply
mean that the supply curve

moves up and to the left.

Again just read off
what that means.

A reduction in supply

means that at any price

the firm is now willing
to sell a smaller quantity

or equivalently,

it means that for
any particular quantity

where the reduction
in supply with higher costs,

the firm needs a higher price.

Because their costs have gone up,

the price that the firm requires,

in order to sell
any particular quantity,

has increased.

Remember,
this is the minimum price

that suppliers require
to produce this quantity

and with higher costs
that minimum price has gone up.

That's what a decrease
in supply looks like --

higher costs, decreased supply.

Let's look at a tax.

A tax on output

is equivalent
to an increase in costs,

and therefore a tax
will decrease supply.

Here we go.

Suppose that before the tax,

firms were willing to sell

let's say 60 million
barrels of oil per day

at a price of $40 per barrel.

Now we imagine there's $10 tax.

How much will firms require

in order to sell 60 million
barrels of oil per day

now that there is a $10 tax?

What would be
the requirement for them?

$50.

In fact, what a tax does

is it shifts the supply curve up
by the amount of the tax --

in this case, by $10 everywhere
along the supply curve.

By the way,

notice we actually
haven't said anything here

about what the effect
of the tax will be on prices.

In fact we haven't
said anything at all

about how prices are determined.

That's going to be in
an upcoming video on equilibrium.

What we're emphasizing now

is how a tax, or how changes
in input prices, and so forth

affect the supply curve.

The way we analyze a tax

is by shifting the supply curve up
by the amount of the tax.

What about a subsidy?

A subsidy is just
the opposite of a tax.

Instead of the government taking

with every unit that you produce,

the government gives
some amount of money

for every unit which is produced.

A subsidy is equivalent
to a decrease in the firm's costs

and therefore it increases supply.

Go ahead and graph the effect
on the supply curve of a subsidy

to, say, fast food producers.

Suppose it's aimed
at helping them export overseas.

What would be the effect

of a subsidy on the supply curve
for fast food producers?

I'm not actually
going to show you that.

If you have
any trouble graphing it,

go back and look
at the tax example.

A subsidy is just a tax in reverse.

Expectations.

This one is a little trickier

but expectations
can also shift the supply curve.

Imagine for example
that firms expect

a higher price for a good in the future.

That increases the cost
of supplying the good now --

the opportunity cost.

Since there's an increase in cost,

that decreases
the current supply of the good.

This is perhaps easiest to see

if firms can store the good.

Suppose firms believe

that the price is going
to be higher in the future.

Therefore they're going
to want to produce more today.

But instead of selling today,

they're going to want
to store the good

in order to sell it in the future

when the price is higher.

This will become more important
when we come back later

and talk about speculation.

Let's see how this works
with the diagram.

Here's the supply curve currently.

Now firms come to believe

that prices are going to be
higher in the future.

So what do they do?

They take some
of their current supply

and they put that supply
into storage.

They remove it
from the current market.

Since that quantity
is no longer being supplied

on today's market,

today's supply curve decreases.

The entry and exit of new producers

is another important
supply shifter.

It's pretty easy
to see that with entry --

that implies more sellers
in the market --

that increases supply.

Exit implies fewer sellers
in the market,

decreasing supply.

What will happen
to the supply of lumber

with a free trade deal
with Canada?

This actually happened of course.

Here's the domestic supply curve,
the U. S.supply curve,

without the free trade deal.

Now we get NAFDA,
we get the free trade deal,

and what that means
is that at any price

there are now more suppliers.

So there's a greater quantity
supplied at each particular price.

In addition, Canadian firms
will have lower costs

in their American counterparts.

Not all of them, but some of them
are going to have lower costs.

That means that at any quantity

there's a lower price
for the same quantity.

As entry increases supply --

and for exit,
the process just works in reverse.

Our final supply curve shifter,

changes in opportunity cost,

is perhaps the trickiest

because we're usually
thinking about cost

in terms of dollar costs.

But we have to keep in mind

that the fundamental concept
of cost is opportunity cost.

Let's apply this

and I think it will become
fairly easy to understand.

Inputs which are used in production

have opportunity costs.

They can be used to produce
many different things.

And sellers will choose
to employ their inputs

in the production
of the highest priced final good.

For example, what happens
to the supply of soy beans

when the price of wheat increases?

Here's a hint.

Farmers can use their land
to grow soy beans

or to grow wheat.

Farmers have a choice
about their use of land.

So what happens
to the supply of soy beans

when the price of wheat increases?

Let's look at this with a graph.

Here's our initial
supply curve for soy beans.

It will label this
low opportunity cost --

that means that
the price of wheat is low.

There's not much else
useful to do with this land

other than to grow soy beans.

However, when the price
of wheat goes up,

well then the opportunity cost
of growing soy beans has gone up.

When the price of wheat was low

the cost of growing
soy beans was low

because what else were you
going to do with the land?

Now that the price
of wheat has gone up,

there's an alternative,
there's an opportunity.

The farmers could
instead grow wheat.

That means that farmers are
going to take some of their land

out of soy bean production
and move it into wheat production.

So to produce
the same quantity of soy beans

the farmers are going to
require a higher price

because their costs
are now higher --

their alternative,
their opportunity cost, is higher.

Or, to put it differently,

at the same price of soy beans,

farmers are now going to be willing
to supply fewer soy beans

because they've got
other things to do with their land

such as growing wheat.

Here again is our list
of important supply shifters.

These are not the only supply shifters.

There could be lots of things
which shift supply.

In giving you this list however,

these are some
of the most important ones.

But to understand how
to go about solving these problems,

keep the general procedure in mind.

Figure out first,

what's the effect
of this change on costs?

Once you know the effect
of the change on costs,

you know how
to shift the supply curve.

If costs decrease
that's an increase in supply.

If costs increase
that's a decrease in supply.

So whatever shifter you get,

figure out what the effect
of that is on costs

and then work out
the effect on the supply curve,

draw the diagram,
and you'll be fine.

Thanks.

- [Narrator]
If you want to test yourself,

click "Practice Questions"

or if you're ready to move on,
just click "Next Video."

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