Question

In 2012, the price of corn was $8 a bushel. In 2014, a huge harvest caused the price to drop to about $4 a bushel because quantity demanded for the corn was less than the quantity supplied. What is the law of supply and how does it explain why farmers increased their production of corn? If quantity demanded for corn is much less than quantity supplied, is that a shortage or a surplus? Would the price of corn be above the equilibrium price or below? Why is the price dropping?

Answer 1

The law of supply states that, other factors remaining constant, the price and quantity supplied in the market are directly related to each other. That is higher the price higher will be the quantity supplied in the market and vice versa.

If the quantity supplied is less than the quantity demanded, there will be shortage in the market. The buyers will now compete among themselves to buy. This competition among them will raise the price. As the buyers in order to get the product will now be ready to pay more for it to drive out other buyers from the market. This is the reason that the farmers will now charge a higher price from the buyers. In case of shortage the current price must have been lower than the equilibrium price.

If the quantity demanded is less than the quantity supplied in the market, it will be called as surplus. There will be more quantity available in the market than demanded or required. The sellers in order to get away with the surplus stock will reduce their prices. The stocks will only be cleared if the sellers reduce their prices. In case of surplus, the current price must have been more than the equilibrium price.