Tuesday 14 January 2014

Elasticity of supply for economists: how to understand it in a few simple moves

Elasticity is a useful concept in economics and sometimes pupils get a bit confused about elasticity of supply, often muddling notions from elasticity of demand into their thinking.

It's easier to start off with the logic of a demand increase (and just reverse your thinking for a demand fall).

Basically, elasticity measures how flexible a producer is with respect to a price change. If demand for the product rises, to what extent can a producer increase commodity production or offer more services to the market?

We naturally say that it depends... but on what?

SPARE CAPACITY

Well, how quickly can the producers switch on the machines or ask workers to do extra time? If the resources used in production are not working to their fullest capacity (usually only reached in extreme situations) companies can usually gear up to satisfy their customers.

Would they have to open more hours (Christmas rush time) or offer overtime to the workers or just dust off the older machines? What restricts them from achieving higher production given the resources as their disposal? Regulations on opening hours? Union rules or legislation maximising the number of hours workers can work?

SPARE STOCK

If the factor has spare stock - no problem, it just takes its goods off the shelf. If the tutor has spare time in his or her timetable, demand can easily be taken care of. A storage company with unused space ... a chiropractor not working five days a week ... just look at any supplier and ask yourself to what extent can they increase their sales by what they have on the shelves?

SWITCHING PRODUCTION

Another determinant is how quickly a producer can switch from one line of production to another. Imagine a plumber who is also a qualified gas installer - the switch is immediate. But what about a masseur qualified in full body massage but not sports massage and he's finding increased requests for sports massage - it may take him a few weeks to qualify in the more intensive application of his hands! A car company shifting from the production of petrol to hybrid cars may also be a few weeks, but if it needs to shift from small family cars to SUVs, it could take over a year.

TIME

All of the above involve the use of time. Some service providers and producers can adapt to changing conditions very quickly while others take much longer.

Time is the key element in anything we do. For instance, I'm compiling a series of online presentations for beginner Economics students in the UK via economics-circle.org (although it also covers the basic elements of Econ 101 in Canada and the States): each presentation can take over an hour to produce before recording, which can take anything between forty to sixty minutes. Accordingly, should a student require a lecture on a different topic than one covered so far, then it can take up to a couple of hours to produce and then probably half an hour to upload. Job done.

As an economist, I'm always keen to reduce the time costs involved in my work - including producing these blogs - so I time myself! That way, I get a good idea of how much time is required to write and compile my output.

It's always a good place to start, and by the way, on that note I HIGHLY RECOMMEND the funny and punchy Dan Kennedy's No BS Guide to Entrepreneurship:


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