The Economic Way of Thinking CH4 Notes

Notes on Chapter 4 in Heyne “The Economic Way of Thinking” In chapter 4, you must shift your focus to producers because we are talking about supply. As a producer or supplier of things, if you can get a higher price this will induce you to supply more. Therefore, supply, like demand, is a relationship between planned quantities supplied at various prices. While demand curves slope downward, supply curves slope upward to the right. We will put the two curves together in chapters 5 and 6 and beyond. Right now understand that for supply the relationship between price and quantity supplied is positive – a higher price will bring forth more quantity supplied. Read about the things that can cause a change or shift in supply ( on pages 82-84. There are five things to consider: the marginal cost of resources used (impacts the opportunity cost of providing the product), technological change which typically lowers the cost (shifts supply to the right and down), the price of substitute products to be supplied (a farmer could plant soybeans or corn so if the price of corn rises it raises the opportunity cost of growing soybeans so that the supply of soybeans shifts to the left and up), a change in expected prices (opposite to demand since if the expected price is to be higher in the near future, what is made available for supply will go down now in order to sell the product later at a higher price meaning today’s supply would shift left and up since the opportunity cost of selling the product now rises.), and finally if there are more (less) sellers the supply will shift to the right (left). Supply elasticity has the same definition as price elasticity of demand. Think of supply elasticity as the ability to rapidly increase quantity supplied (elastic). In most cases, supply is inelastic since it will take time to add significantly to the amount supplied for most products in the short term. Notice also that things do not have costs only actions do (pp. 74-75) and that some “costs” are irrelevant because they are not impacted by a decision (see sunk costs pp. 75-76). Practice thinking about sunk or irrelevant costs with questions 6, 7 and 8 at the end of the chapter. Cost can be confusing. Try to understand the discussion of an all-volunteer Army on pp. 86-89. The question is what is being given up based upon the values consumers give to products and the resources that produce them? The point is, if you draft people into the army some will give up highly valued production (as valued in the market by consumers) to serve in the Army. The Army could certainly get the amount of people they want without having to raise the price they pay draftees, but the question is at what cost? The authors argue that in every case except one where the draft mirrors the market, the cheapest Army is an all-volunteer Army. You may have to raise the salary to get enough recruits, but you know that what you pay them is at least the opportunity cost of what they could earn elsewhere and hence, the cost of an Army (the sacrifice of value elsewhere) is minimized. See question 11 at the end of the chapter for practice on this issue. Answer question 22 as it is on your quiz. It helps you to distinguish between marginal costs and sunk costs. Also read page 90 as the ideas discussed there are hard to grasp.