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Questions
Answer the following about 200 to 250 words
What are the assumptions law of supply?
State and explain assumptions of the law of supply.
Solution 1
According to the law of supply, the quantity supplied of a commodity is positively related to its price, other things remaining constant. In other words, when the price of a commodity rises (or falls), the quantity supplied will increase (or decrease), and other things remain unchanged.
The law of supply is based on the following assumptions:
- The price of inputs, or the firm's cost of production, remains the same.
- The state of technology does not change, i.e. there is neither appreciation nor depreciation of the existing technology.
- The price of the related goods (such as substitute goods and complementary goods) remains the same.
- Government policies remain unchanged.
- There is no change in the transport facilities used by the firm and the transportation cost.
- There is no change in the natural factors and there is no advent of any natural calamity such as an earthquake etc.
Solution 2
The law of supply is based on the following assumptions:
- Constant cost of production: It is assumed that there is no change in the cost of production. A change in the cost of production will affect the profits of the seller. Therefore, less quantity will be supplied at the same price.
- Constant production technique: It is also assumed that the production technique does not change. Improved production techniques may lead to an increase in production, which in turn may lead to an increase in the supply at the same price.
- No change in weather conditions: It is assumed that there is no change in the weather conditions. Natural calamities like floods, earthquakes etc. may decrease supply.
- No change in Government policy: It is also assumed that government policies like taxation, trade policy, etc. remain unchanged.
- No change in transport cost: It is assumed that there is no change in the condition of transport facilities and transport costs. For example, a better transport facility increases supply at the same price.
- Prices of other goods remain constant: Prices of other goods are assumed to remain constant. If they change, the law of supply may not hold true because producers may transfer resources to other products.
- No future expectations: The law also assumes that the sellers do not expect future changes in the price of the product.
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