The Law of Supply and the Determinants of Supply - Research Paper Example

The Law of Supply and the Determinants of Supply The law of supply states that the higher the price the higher the quantity supplied given other factors are held constant (Mankiw). Prices in the market are determined by demand and supply, if demand is more than supply then there is a shortage in the market and consumers will compete for these scarce goods and services thereby pushing the prices up. If demand is less than supply, there is a surplus which makes suppliers or producers to compete for the few customers thereby pushing the prices down. Price increases for goods and services results to higher profit margins for producers provided costs of production are constant hence act as an incentive to produce more hence increase in quantity supplied. In the long-run, the excess supply leads to price decline as customers are few. Equilibrium is achieved only when quantity demanded is equal to quantity supplied (Mankiw).The Moldovan wine industry produces wine for export mostly to Russia and therefore depends on export prices. Milestii-mici is the largest wine cellar in Europe and it is state owned. Any changes in the export prices affects the supply of the wine cellar. The scenarios discussed above can all be depicted in graphs. The following graphs show these scenarios. Figure 1 is the supply curve, showing the direct relationship between price and quantity supplied, Figure 2 is the situation where demand is greater than supply (a shortage) in which price changes will occur to eventually equalize supply and demand and Figure 3 is the achievement of the equilibrium. Figure 1 Figure 2 Figure 3 Determinants of Supply The quantity supplied also changes with other factors except price. The law of supply assumes that all other factors are constant except price but that is not the case. Changes in factors of production such as labour, capital and technology also affect the amount of goods and services produced in the economy. Such factors are referred as non-price determinants of supply and affect supply in the same way as price but they change the supply and make supply curve to shift unlike the price which changes the quantity of goods supplied hence movements are along the supply curve. If the change in price is shown is the graph as movement along the demand curve, change in other determinants of supply is depicted as shift of the demand curve. Input Price Inputs are the things used to produce. The inputs in production inlcude raw materials, machines and equipments and labour. In the case of wine production in Moldova, these inputs are labour, capital, grapes, pinot, Muscat, traminer, vineyard. Grapes is the primary product used in the process. If grapes become more expensive, this would mean lower profit for the company, thus it will cause a decline in the quantity of wine supplied. On the other hand, if there is a reduction in the price of an inputs, profit will be larger thus suppliers will be encouraged to supply more. Milestii mici is mainly used for storage and maturation of quality wines but in 2005 it bought own vineyard for planting grapes and other crops for making wine hence lowering input cost of buying grapes (Milestii mici). Figure 4 shows the effect of an increase in the price of grapes while Figure 5 shows the increase in the quantity supplied brought by the buying of Milesti Mici of its own vineyard. Figure 4 Figure 5 Technology Likewise, technology affects production and quantity supplied. Advances in technology allows production to increase using the same level of inputs. Increase in productivity enables producers to use fewer resources such as labour and thus increased profit and more production (Tucker, 69). The competition that European wime producers face puched them to invest in newer equipments so that now they can analyze the raw materials more intently through the use of advanced laboratory equipments (Milestii mici). The Moldovan wine industry use traditional methods of wine processing which was manual and required more labour but recently due to expansion of markets to European countries, the wineries are required to produce high quality wine and as such wineries like Milestii-mici and Cricova have invested in modern equipment hence decreasing use of manual labour and instead utilize the internal resources. Figure 6, 7 and 8 show the effect of technology to quantity supplied. Figure 6 Figure 7 Figure 8 In figure 7, the level of capital, K is 3 and the level of Labor, L is also 3. This combination yielded a quantity equals to 75. This level of production. But with technology as in Figure 8, the same level of K and L which is 3 can yield a higher level of quantity at 90. This allows supply to increase (Robert S. Pindyck). Price of Related Outputs Related outoputs are products produced in the same industry. Example of this are beef and cowhide and milk and cheese. The production of cowhide affects the quantity of beef supplied so that a change in the price of one of these products will affect the other. In the case of the wine industry, grape is a related output. On the other hand, such as the case of Milestii Mici which has its own vineyard, it can opt to sell grapes alone or wine. If the price of grapes increases it can opt to sell more grapes than wine, thus causing a decline in the quantity of wine supplied. Taxes and Subsidies A tax is an additional cost therefore it discourages production. On the other hand, subsidies reduces the total cost so it encourages productiona nd increases quantity supplied. In the case od Moldova, the government gives reimbursements to the farmers sot hat they are motivated to plant more grapes (Milestii mici). The government does his through the vineyard plating program. This will in turn cause a decline in the price of grapes, thus encouraging production of wine. On the other hand, Russia levies a tariff (a tax on imports) on Moldovan wine. This increases the price of moldovan wine which will result to a decrease in supply. Producers Expectations If producers expect prices to increase, they hold goods to sell later hence the supply declines. If prices are expected to fall, goods are sold at current price to avoid losses later hence supply increases shifting supply curve to the right (Tucker, 71). With the recession, demand for wine declined therefore retailers demand less from the producers, so currently the supply of wine is relatively less. The unpredictability of both prices and sales make the producers opt to produce less so it can avoid losses Number of Suppliers Since the governmnt encourages planting of grapes, through providing reimbursements or subsidies, more companies will be wanting to enter into the wine industry. This will result to a glarger number of wine producers therefore the totalquantity of wine supplied will increase. References Mankiw, N. Gregory. Principles of Macroeconomics. 3rd. South-Western College Publishing, 2004. Milestii mici. “The Technologies of the Production”. 14 Apr 2010, Milestii mici.md. Retrieved 20 Apr 2010. HYPERLINK "http://www.milestii-mici.md/eng/technologies" http://www.milestii-mici.md/eng/technologies Robert S. Pindyck, Daniel L. Rubinfeld. Microeconomics. Pearson Education, n.d. Tucker, B. Microeconomics for Today 6 ed, USA, Cengage learning, 2010. Read More