Short Run Supply Curve of a Firm

The short run supply curve of a firm is a fundamental concept in economics. It illustrates how firms respond to price changes within a period where at least one input, typically capital, is fixed. During this period, firms can adjust variable inputs such as labour and raw materials but cannot change fixed inputs like machinery or plant size. This mix of fixed and variable costs impacts production decisions.

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What is Short Run Supply?

Short Run Supply Curve of a Competitive Firm

Short Run Supply Curve of a Perfectly Competitive Firm

Supply Curve of a Firm in the Short Run

Market Price is Equal to or Greater than Minimum AVC

• Breakeven Point : When the market price equals the minimum AVC, the firm is at its breakeven point for variable costs. This means that the revenue from sales is just enough to cover the variable production costs.
• Continue Production : The firm can continue producing in the short term because it covers its variable costs, although it makes no profit. By doing so, the firm partially contributes to covering its fixed costs.

• No Profit, No Loss on Variable Costs : The firm is not making a profit but also not incurring a loss on variable costs. Any contribution towards fixed costs helps reduce overall losses.
• Operational Decisions : The firm should continue operating in the short term while seeking ways to increase efficiency or reduce costs to improve profitability.
• Cost Management: Focus on reducing variable and fixed costs to improve the margin.
• Price Adjustment: Explore options to increase the product price through value addition, marketing, or targeting different market segments.

• Profitability : When the market price is above the minimum AVC, the firm is not only covering its variable costs but also contributing towards its fixed costs, leading to profitability.
• Increase Production : The firm should increase production to maximise profits, as each unit sold contributes to covering fixed costs and generating profit.
• Positive Cash Flow : The firm experiences positive cash flow by generating revenue exceeding variable costs.
• Profit Generation : After covering variable costs, surplus revenue covers fixed costs and profits, enhancing the firm’s financial health.
• Sustainable Operations : As long as the market price remains above the minimum AVC, the firm can operate sustainably and profitably.
• Investment Opportunities : The firm can reinvest profits into improving production processes, expanding operations, or developing new products.
• Efficiency Improvements : Continually seek to improve operational efficiencies to reduce AVC, thereby increasing the profit margin.
• Market Expansion : Explore new markets or segments where the firm’s products can command higher prices, further enhancing profitability.

Market Price is Less than the Minimum AVC

• Shutdown Point : The firm reaches its shutdown point if the market price falls below the minimum AVC. This means the firm would incur greater losses by continuing production than halting operations.
• Loss Minimization : To minimise losses, the firm should cease production in the short term. Doing so incurs only fixed costs rather than the sum of fixed and variable costs.

• Negative Cash Flow : Continuing to operate at a market price below the minimum AVC results in negative cash flow, as the revenue generated from sales is insufficient to cover variable costs.
• Operational Losses : The firm will experience operational losses that exceed fixed costs, worsening its financial position.

• Re-evaluation of Business Strategy : Persistently low market prices below the minimum AVC necessitate reassessing the business strategy. The firm must consider whether to exit the market or find ways to reduce variable costs.
• Market Exit : If market conditions do not improve and prices remain below the minimum AVC for an extended period, the firm may be forced to exit the market to avoid sustained losses.

• Reducing Variable Costs : To minimise the AVC, the firm should explore all possible avenues to reduce variable costs. This could include negotiating better terms with suppliers, improving operational efficiencies, or adopting cost-saving technologies.