Short Run Supply Curve Explanation and Example

short run supply curve explanationIn order to understand what a short run supply curve means in economics, you first need to understand the basic rules of supply and demand, and the meaning of short run supply itself. In this guide, we’ll cover some basic economic concepts and unravel what a short run supply curve is.

To delve deeper into these ideas and the concepts surrounding them, here’s a course on micro and macroeconomics to help you out.

What is Supply?

In economics, supply refers to a seller’s supply of goods that they’ve produced and are willing to sell at a set price, which is determined by a number of factors. The amount and price of a seller’s supply is influenced by a number of variables: how much it costs to produce the good, the price of its competition, and most importantly, something called demand.

What is Demand?

In an economic market, demand is used to refer to the willingness of buyers to purchase a good. If there is no demand for a particular item, why would a seller need to supply it? A seller would be losing money if they produce more of a good than the market wants to purchase, creating a model known as supply and demand. This is what determines the price of goods in an economic market.

What is Supply & Demand?

There are four laws of the economic model of supply and demand:

  1. When demand increases and supply does not also increase to meet the demand, it will result in a shortage, meaning the equilibrium price of that good will shoot up. This is because more people want an item that sellers are running low on. Because the item is rare, people will pay more to have it since they are struggling to find it anywhere else.
  2. If demand decreases and a seller’s supply does not budge, this will result in a surplus, meaning the equilibrium price of that good will decrease. Basically, there is too much of an item that nobody has a need for, and so the seller will lower the price to try to get rid of as many as possible.
  3. If demand does not change, but a buyer increases their supply of a good, they will have a surplus of that good and will need to lower the price. They have created too much of something that people do not want at the moment, and need a way to get rid of it.
  4. If demand does not change, but supply decreases, this will result in a shortage. You probably understand by now, but if you’re struggling, check out this course on the principles of microeconomics for all the fundamental information.

What is Short Run Supply?

So we know what supply means, but what about short run supply? Well, the supply of an item is not only determined by the demand of the consumers, as we mentioned before. Other variables factor in. One of those variables is the actual production cost for the good, which itself depends on the resources and technology at the seller’s disposal.

  • Making a Profit

All of this is taken into account when determining the amount of a good to produce, especially because the goal of the seller is to turn a profit. A profit equals the difference between what the seller makes from selling their goods, and what it cost them in the process.

For instance, you might sell a carton of homemade lemonade for $1, but inside that one carton is $3 worth of lemons, sugar, and water. You’re losing $2 for each carton you sell, and would need to raise your price to at least $4 per carton to make any extra money off of it.

For a more sophisticated example, and also some deeper explanations of the principles at play here, check out this course on basic microeconomics. Take note that understanding the principles of economics requires an understanding of basic math. Give yourself a refresher with this introduction to arithmetic.

  • Revenue and Variable Costs

Another thing you need to understand here is the difference between total revenue, marginal revenue, and variable costs. Total revenue is the amount of money that a seller earns from selling their product. Marginal revenue is the amount of money that a seller’s total revenue would change if the seller were to increase their output of goods by just one unit. Variable costs are costs that can change proportionally to the amount of output of a seller’s good.

  • Short Run Supply Curve

A short run supply curve, then, is the portion of a seller’s marginal cost that lies above the curve of its average variable cost on a chart. A seller will want to increase the supply of its good when the market price rises, but if the market price decreases to the point that it lies below the average variable cost for the output of a seller’s good, then the seller should not output any more of that good. If they did, they would effectively lose money, resulting in exactly the opposite of a profit.

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Example of Short Run Supply Curve

So now that we understand the basics of profit making, supply and demand, marginal and variable costs, and so on, let’s think up a simple example.

Let’s say you have a food cart where you supply all your own ingredients every day. You make sandwiches from bread, cheese, lettuce, tomatoes, and deli meat. For $20 worth of all of these ingredients combined (we’re keeping it simple here), you can make 10 sandwiches. If you want to turn a profit, you’ll need to sell the sandwiches for over $2. You could sell them at $2 and earn absolutely nothing but your money back. Or you could sell them at $3 and your total revenue would be $1 for every 10 sandwiches.

If demand for sandwiches on your corner are high, and people are willing to spend the $6 that you charge for each, you can make decent cash. If demand for sandwiches are really low, forcing you to drop your price to $1, you might want to think of getting into a new line of work. You’ll be losing a ton of money, and will have to put a stop to your output until the market price increases.

For more about economics and the way things like supply and demand work together to determine market prices, check out this beginner’s economics course.