Firm's Supply Curve

Definition

The firm's supply curve represents the relationship between the price of a good and the quantity of that good that a firm is willing and able to supply to the market. It shows how the firm's output decisions change as the market price of the good varies.

5 Must Know Facts For Your Next Test

1. The firm's supply curve is the marginal cost curve of the firm, assuming the firm is a price-taker and is trying to maximize profit.
2. As the market price rises, the firm will produce more output because the additional revenue from selling one more unit exceeds the additional cost.
3. The firm's supply curve is upward-sloping, reflecting the law of diminishing returns and the increasing marginal cost of production.
4. In a perfectly competitive market, the firm's supply curve is a portion of its marginal cost curve above the minimum point of the average cost curve.
5. The firm will continue to produce up to the point where the market price equals the firm's marginal cost, as this maximizes the firm's profit.

Review Questions

• Explain how the firm's supply curve is derived from the firm's marginal cost curve in a perfectly competitive market.
  • In a perfectly competitive market, the firm is a price-taker and seeks to maximize profit. The firm's supply curve is the portion of its marginal cost curve that lies above the minimum point of the average cost curve. As the market price rises, the firm will produce more output because the additional revenue from selling one more unit exceeds the additional cost. This upward-sloping supply curve reflects the law of diminishing returns and the increasing marginal cost of production.
• Describe how the firm's profit-maximizing output decision is determined by the intersection of the market price and the firm's marginal cost curve.
  • The firm will continue to produce up to the point where the market price equals the firm's marginal cost, as this maximizes the firm's profit. If the market price is above the firm's marginal cost, the firm can increase its profit by producing more. Conversely, if the market price is below the firm's marginal cost, the firm should reduce output because the additional revenue from selling one more unit is less than the additional cost. The firm's supply curve reflects this profit-maximizing behavior.
• Analyze how changes in the firm's cost structure would affect its supply curve and output decisions in a perfectly competitive market.
  • If the firm experiences a decrease in its marginal cost, such as from technological improvements or a reduction in input prices, its supply curve will shift to the right. This means the firm will be willing to supply more output at any given market price, leading to an increase in the firm's profit-maximizing output level. Conversely, an increase in the firm's marginal cost would shift the supply curve to the left, causing the firm to reduce its output. These supply curve shifts reflect the firm's goal of maximizing profit by producing the quantity where price equals marginal cost.

Related terms

Marginal Cost:

The additional cost incurred by a firm to produce one more unit of output.

Profit Maximization:

The goal of a firm to choose the level of output that generates the highest possible profit.

Perfectly Competitive Market: A market structure where firms are price-takers and have no influence over the market price.