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LAFFER CURVE: The graphical inverted-U relation between tax rates and total tax collections by government. Developed by economist Arthur Laffer, the Laffer curve formed a key theoretical foundation for supply-side economics of President Reagan during the 1980s. It is based on the notion that government collects zero revenue if the tax rate is 0% and if the tax rate is 100%. At a 100% tax rate no one has the incentive to work, produce, and earn income, so there is no income to tax. As such, the optimum tax rate, in which government revenue is maximized, lies somewhere between 0% and 100%. This generates a curve shaped like and inverted U, rising from zero to a peak, then falling back to zero. If the economy is operating to the right of the peak, then government revenue can be increased by decreasing the tax rate. This was used to justify supply-side economic policies during the Reagan Administration, especially the Economic Recovery Tax Act of 1981 (Kemp-Roth Act).

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RESOURCE PRICES, SUPPLY DETERMINANT:

The prices of the resource inputs that affect production cost and the ability to sell a particular good, which are assumed constant when a supply curve is constructed. An increase in resources prices causes a decrease in supply and a decrease in resource prices causes an increase in supply. Resources prices are one of five supply determinants that shift the supply curve when they change. The other four are production technology, other prices, sellers' expectations, and number of sellers.
The resource prices paid for the use of labor, capital, land, and entrepreneurship affect production cost and the ability to supply a good. If resource prices increase, then production cost is higher and the sellers are inclined to offer less of the good for sale. If resource prices decrease, then production cost is lower and the sellers are inclined to offer more of the good for sale.

The Cost of Production

The ability to supply a good depends on production cost, or the opportunity cost of employing the four factors of production--labor, capital, land, and entrepreneurship. The corresponding resource prices are wage, interest, rent, and profit.

Consider the production and supply of Wacky Willy Stuffed Amigos as an illustration.

  • Higher Resource Prices: An increase in any of the resource prices causes an increase the production cost. Suppose, for example, that the Stuffers Union, which represents workers who put the stuffing into Stuffed Amigos, negotiates a wage increase. This higher resource price means that The Wacky Willy Company offers less for sale at the existing price. If the price remains constant (by assumption), then the supply decreases.

  • Lower Resource Prices: A decrease in any of the resource prices causes a decrease the production cost. Suppose, for example, that the price of thread used to stitch together Stuffed Amigos declines. This lower resource price means that The Wacky Willy Company can offer more for sale at the existing price. If the price remains constant (by assumption), then the supply increases.

Shifting the Supply Curve

Resource Prices

A change in resource prices causes the supply curve to shift. This can be illustrated using the positively-sloped supply curve for Wacky Willy Stuffed Amigos presented in this exhibit. This supply curve captures the specific one-to-one, law of supply relation between supply price and quantity supplied. Resource prices are assumed to remain constant with the construction of this supply curve.

Now, consider how changes in resource prices shift the supply curve.

  • Higher Resource Prices: An increase in resource prices causes a decrease in supply and a leftward shift of the supply curve. With the higher prices, production cost rises and the ability to produce the good is diminished. As such sellers sell less of the good. Click the [Higher Prices] button to demonstrate.

  • Lower Resource Prices: A decrease in resource prices causes an increase in supply and a rightward shift of the supply curve. With the lower prices, production cost falls and the ability to produce the good is enhanced. As such sellers sell more of the good. Click the [Lower Prices] button to demonstrate.

<= RESOURCE PRICE, AGGREGATE SUPPLY DETERMINANTRESOURCE QUALITY, AGGREGATE SUPPLY DETERMINANT =>


Recommended Citation:

RESOURCE PRICES, SUPPLY DETERMINANT, AmosWEB Encyclonomic WEB*pedia, http://www.AmosWEB.com, AmosWEB LLC, 2000-2022. [Accessed: September 24, 2022].


Check Out These Related Terms...

     | supply determinants | production technology, supply determinant | other prices, supply determinant | sellers' expectations, supply determinant | number of sellers, supply determinant | demand determinants | buyers' income, demand determinant |


Or For A Little Background...

     | supply | market supply | supply price | quantity supplied | law of supply | supply curve | change in supply | change in quantity supplied | ceteris paribus | resources | production cost |


And For Further Study...

     | Marshallian cross | comparative statics | competition | competitive market | market | producer surplus |


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