Supply

This paper analyzes the elements that comprise supply within an economic system. Specifically, it reviews the components and the forces that influence the ability of supply to function within a macro-economy. With a brighter spotlight on this integral concept of economics, the reader will better appreciate the approaches necessary to successful economic development, redevelopment and/or transition.

Keywords Capital; Demand; Economic Development; Keynes, J.M.; Macro-economy; Reaganomics; Supply

Economics > Supply

Overview

Stanford University professor Hau Lee once recalled a story about Volvo during the mid-1990s. The Swedish auto giant found itself with an overabundance of green vehicles in its stocks. In an effort to move the cars, Volvo's marketing and sales departments embarked on a campaign of special deals and incentives. Unfortunately, the company failed to notify the manufacturing department about its promotional endeavors. Manufacturers, as a result of this lack of communication, believed that the cars were moving so quickly due to immense popularity among consumers, and so simply reacted to the sales by producing even greater numbers of the green vehicles (Siegele, 2002).

It can be argued that a macroeconomy hinges on the relationship between two major elements. On one side are consumers — individuals or groups which, during the course of their residence within that system, require goods and services and are willing to pay to obtain them. This side of the economy, demand, has long been a focal point of policymakers and economists who adhere to the Keynesian model of economics. This school of thought identifies the consumer as pivotal to economic recovery from war, depression or recession and political and social upheaval. Keynesian economists believe that government has a role to play in revitalizing stagnant or transitional markets and systems, and that its activity should seek to reverse unemployment, mitigate taxes, increase wages and keep the cost of living affordable.

The countervailing force to demand is supply. In this component of an economic system, manufacturers, industrialists, service providers and even (one can argue) the government itself are positioned to meet the needs of consumers. Reactive to the demand of consumers, the supply side, particularly from the point of view of fiscal and economic policymakers operating with a Western-style market system, has been somewhat left to its own devices in times of economic duress or stagnation. As the various worldwide economic systems have become interconnected, however, greater attention to the health and well-being of supply has been warranted and even necessitated.

Filho, Jayme, & Libƒnio (2013) present a theoretical analysis of the relationship between international capital mobility and economic growth, seen from the perspective of demand-led growth under the post-Keynesian closures. The principle of effective demand, as originally set forth by Keynes, considers economic growth to be induced by the "temporal behavior of aggregate demand." This does not mean that the supply-side is irrelevant, but rather that demand is the dominant force in the process, Filho, Jayme, and Libƒnio explain. In open economies, a "fundamental constraint to the sustained expansion of income" is the equilibrium in the balance-of-payments. The balance-of-payments constraint is especially relevant for developing countries, since external imbalances are not automatically corrected via relative prices, argue Filho et al.

This paper analyzes the elements that comprise supply within an economic system. Specifically, it reviews the components and the forces that influence the ability of supply to function within a macro-economy. With a brighter spotlight on this integral concept of economics, the reader will better appreciate the approaches necessary to successful economic development, redevelopment and/or transition.

The Substance of Supply

Supply is a relatively unappreciated segment of macroeconomics. However, the significance of supply cannot be understated. Supply is not simply product delivery — its industries are members of a community, contributing a proportionally larger share of taxes into every level of the economy, sponsoring local events and charities and, by virtue of providing jobs, helping other businesses stay vibrant as well (such as restaurants and retailers).

As previously stated, in the symbiotic relationship between supply and demand, the latter received a considerable portion of attention from policymakers in the post-World War II era. Thanks in no small part to the popular endorsement of Keynesian theory, policymakers seeking to rebuild and revitalize national economies (as well as intra-state and local economies) have focused attention to reversing unemployment trends and lowering costs for consumers.

In the mid-1970s through the 1980s, that mode of thinking was sharply contrasted with the introduction and increasing popularity of "trickle-down" economics in the US system. With the supply-side economic policies known as "Reaganomics" (named after President Ronald Reagan), Keynesian trends were dramatically reversed, as lawmakers focused a disproportionate amount of attention on the supply side; expecting that a surge in the health of the supply side would ultimately help consumers (Harper, 2005).

Trends Magazine, in 2011, published its observation that "the pace of change has quickened and the policy pendulum has swung away from demand-side Keynesian economics and toward supply-side 'Reaganomics.'" With the emergence of Reaganomics 2.0, the authors argued, free market values "will increasingly dominate and begin pushing aside 'the planned-economy paradigm.'"

Regardless of the present view of the general public as to the viability of Reaganomics, the policies introduced that are reflective of this mode of thinking provide some insight into an area that is largely underappreciated. An illustration of the focal points of Reaganomics, therefore, will assist in understanding supply and its various components.

Put simply, supply is business. Whether its goal is to manufacture and sell a particular product, provide a service or perform some task, suppliers generate revenues (or, at least, a return on investment) based on successful delivery. Like any private citizen, businesses seek to generate maximum income with minimal expense and obstruction.

Capital

Relatively few businesses are built up from the ground without a significant financial investment infusion. Capital is an essential component of business development, as it is the fertilizer with which an entrepreneurial seed's growth is aided. The impact of capital investment is especially evident when one analyzes economic transitioning on national levels.

Foreign investment is an invaluable component of economic development in transitioning economies. In some cases, capital from abroad exceeds the money generated from private and/or domestic investors. In Vietnam, for example, the economy grew by over eight percent in 2007, its fastest rate of growth in a decade. This once-isolated communist state has been the target of countless regional investors — foreign capital and private investment far surpassed the monies issued by the Vietnamese government for business development (Muoi & Wright, 2007).

Not all national economies in need of capital investment are those of developing nations. Ireland, for example, a country that can hardly be considered a "developing nation," saw a precipitous fall in its gross domestic product in 2003 and, not coincidentally, a 20 percent drop in exports in a mere two quarters. Prior to that slough, fixed capital investment fell 12.8 percent. Without a source of financial support to aid the continuous operation of varying industries in that country, those industries faltered (O'Brien & Whyte, 2003).

Capital investment is, of course, dependent on conditions that are conducive to that business surviving for the long term. It is also reliant on an environment in which a return on that investment can take place. If interest rates in an economic system are lowered, for example, investment can take place within that economy with greater ease (Niehans, 1987).

The Reagan administration saw capital investment as an important focal point. Without creating an environment in which investors felt comfortable providing capital, Reagan's advisors believed, sustainable business development would not take hold in a tumultuous 1980s economy. Through tax incentives and breaks (the scale of which had not been seen in recent memory), it was assumed that capital flows would not be disrupted (Blinder, 1998).

Wages & Benefits

Suppliers are not just producers of goods and services. They are also employers, bridging the gap between supply and demand by providing consumers with income and economic potential. In an era during which the delicate balance between supply and demand is even more fragile, employee needs can upset that balance.

The 21st century, which began with a painful worldwide recession, provides an important illustration of this risk. After the recession drew to a close, higher wages based on a higher cost of living became prevalent. While this trend gives cause for a sense of elation among consumers, it simply means higher overhead for suppliers. A great many such companies, in an effort to avoid paying the high cost of employee wages, will cut down on the number of jobs they offer, create part-time or consultative positions or send jobs overseas to employee pools that require much lower salaries. Some simply seek ways to offer benefits that go beyond competitive salaries, in an effort to avoid paying worthwhile employees the wage incentives they seek. As one observer reports:

As paying salaries to workers is a necessary component of supply-side manufacturers and service providers, those suppliers will seek to cover this significant cost in the price of doing business.

Added to the mix, in addition to wages, are benefits. A law passed in Massachusetts, for example, requires that every business that employs more than ten full-time employees must provide access to health insurance. A major issue that has been relevant since the 1990s as political fodder, employee health care represents a major expense for any business, regardless of size. The Massachusetts law has been viewed by most not as a "cure-all" to the issue but, at best, a step in the right direction. This law does not require outright that employers provide coverage — rather, it requires that the option exists for employees to pursue if they so choose. In fact, its fundamental tenet is simply that every individual must have health care, and it is up to residents, businesses and the government to ensure that this goal is met. ..FT-On a broader and more sweeping scale, The Patient Protection and Affordable Care Act of 2010 (PPACA), enacted under President Barack Obama, has been rolling out in stages since its passage. Among other things, the PPACA mandates that large employers-those with 50 or more full-time or full-time-equivalent (FTE) employees-provide health insurance or face penalties. Seasonal businesses whose employees work 120 hours per month or for more than four months may also be subject to the mandate. Companies with fewer than 50 full-time or FTE employees individually, but that have a common owner and exceed that threshold when combined, may also be subject to the mandate (Moran, 2013). ..FT-For a number of businesses that already provide health insurance to employees, not much changes under the PPACA, except for some additional reporting requirements. For example, W2 forms for 2012 (issued in early 2013) needed to include the cost of coverage provided. Beginning in 2014, the coverage must be "affordable," which means the employee contribution cannot exceed 9.5 percent of the employee's household income for the taxable year (Moran, 2013).

Utilities

In the 1970s, the US was mired in an energy crisis. The supply of oil was hampered, and prices were high. When President Reagan entered office, his energy policies reflected a respect for oil as the primary source of energy used in households, businesses and government. He also demonstrated a "hands-off" approach, however, in that he knew that if oil prices spiked due to demand, the American people would simply turn to alternative fuel sources, such as natural gas, coal or nuclear power (Hodel, 2006).

Fast forward to the 21st century, and American businesses are still both wholly dependent on oil and suffering as a result. Many are following Reagan's attitude, and in light of the fact that oil prices remain high, some are looking into alternative power sources. So-called "green" technologies are becoming increasingly popular in business (both as a measure to save money and as a useful public relations tool). The moves are understandable — according to the US Department of Energy, about a third of the energy consumed in the United States is used industrially. One report conducted by the National Association of Manufacturers reveals that, using 2004 energy prices (which are considerably less than the present rates), if industries cut their energy consumption by 20 percent, they could save $19 billion per year. Furthermore, the study reads, 30 percent of those savings can be achieved with no capital investment involved ("Companies going green…," 2006).

Nevertheless, utility costs, and in particular, oil prices, are a painful draw on supply for the simple reason that they add to an already daunting price for manufacturing and otherwise doing business.

Taxes

In addition to the capital, wage and utility costs associated with operating a successful business, supply is affected by taxation. There are a myriad of taxes that are levied upon corporations, including those on real estate, utilities and income. Also included in this category are assessments for unemployment insurance pools and health care.

Additionally, many of the taxes levied on the supply side, although the same in nature as those applied to consumers, are imposed at higher rates than on the demand side. This imbalanced taxation policy is intentional, as corporations generate much higher incomes than do individual consumers and are perceived to be able to contribute a larger share into local, state and national budgets.

Because tax policy tends to adhere to the Keynesian approach of protecting demand rather than supply, the perception among supply-side economic (or "Reaganomic") adherents is that the imbalance has left businesses at a disadvantage. The rationale is simple: A supplier that is taxed excessively will either cut production (or close its doors altogether) or find a way around paying those taxes. In the latter activity, some companies will exploit "loopholes" in tax laws in order to avoid paying taxes, or simply move to where tax laws are more agreeable. Some supply-side economists argue that higher and more prohibitive corporate taxes ultimately result in fewer tax revenues for local, state and national coffers:

It is with this fear in mind that fiscal policy in addressing the stagnancy of the late 1970s US economy reversed course from demand-side fiscal intervention to supply-side action, including lower corporate taxes and similar tax incentives for businesses. Even in the mid-2010s, regions seeking to revitalize their economies look to incentives for relocating or developing industries with the hope that their success will not only serve consumers but protect their livelihood as well.

Conclusion

Regardless of one's political ideology and/or attitudes concerning the effectiveness of President Ronald Reagan's policies, his focus on supply as a means to rectifying a stagnant economy was certainly well-advised. Of course, one cannot discount the importance of demand — interestingly, consumers, who drive the production of goods and services provided from the supply side of the economy, are, as employees of every industry, critical components of supply.

As stated in this paper, the relationship between supply and demand is symbiotic. Manifest above, consumers are also employees, comprising a major expense affecting the industries that constitute the supply side — employee wages and benefits. What serves the supply side ultimately serves demand as, in a general sense, if conditions are favorable for sustainable business development, production will be consistent and stocks plentiful at reasonable cost. Similarly, what serves demand will affect supply — if wages and benefits attract and retain a solid employee base, investment in employee salaries and health care will ultimately benefit the business. Clearly, supply and demand are linked and, therefore, equally worthy of attention.

Keynesian economic policies have been useful in focusing on one of the two most important elements in a macroeconomy. Whereas post-World War II efforts to rebuild economies worldwide smartly addressed such issues as unemployment, residential cost of living, personal taxes and other demand-side elements, this myopic focus on but one of two vital components of an economic system left supply to its own devices. It has been difficult, therefore, for the public to view supply-side economics as an invaluable approach to addressing the needs of the second of the two.

Manufacturers, service providers and other suppliers are subject to many influences, many of which can translate to adversity for pricing. I have described a few of them here. First among them are the generation and application of capital. Investment is absolutely essential, as it can breathe life into a faltering business or fiscal system. For national economies in transition (whether or not they are, by definition, "developing nations"), foreign investment can mean a potential return to industrial and fiscal health. Still, whether one is referring to a small business or a national economy, capital investment represents a risk, and investors seek a return on their contributions. It is therefore critical that the environment be conducive to such investment in order to allay any fears of increased risk for that investment.

One of the most pressing concerns of any supplier is expenses. Businesses must pay their employees, but they are naturally cautious about operating within their means. The views of some of the supply-side economists mentioned here suggest that, if wages and benefits (including mandatory new benefits that will add significantly to the bottom line) become too cumbersome for suppliers, then they may seek ways to cut costs, through staff layoffs, shift reorganization or outsourcing. Again, conditions must be conducive for supply-side entities to do business — failure to acknowledge this important issue can leave industries in danger of not surviving the long-term.

Adding to the list of concerns that have plagued supply for centuries is the manner by which modern business keeps its mechanical equipment operating, as well as keeping offices running and at a reasonable temperature. With energy prices continuously inching higher, it is not the private consumer whose way of life is at risk. Businesses who cannot afford to keep up with the rising costs of oil and electricity could be put out of operation. Many are, as a result, seeking alternative ways to save money on fossil fuels. President Reagan's attitude was to enable businesses to, if they could not afford to pay for oil imports, seek out alternatives. Today, with increased attention being paid to "green" technologies and alternative fuels, President Reagan was verified, at least in this context. Of course, many of the "outside the box" fuel sources being considered are also very expensive, and even if the promise exists for an immediate return on investment in "green" technology, it may be a while before supply becomes a leader in alternative energy employment.

Finally, a central theme of supply-side economics is taxation. It is through the federal, state and local tax laws, both here in the US and abroad, that most policymakers seek to incentivize changes in behavior. After all, corporations and industries pay far more in taxes and in more tax areas than do private citizens — taxing supply even harder can, as seen in this article, drive business away. The concept of "Reaganomics" centered on tax breaks and cuts as mechanisms to spur capital investment, grow and maintain business and even explore alternative energy sources. Just as Keynesian adherents emphasize reducing the tax burden for consumers as one potential policy response to building demand-side elements, supply-side advocates push for corresponding tax breaks to minimize the burden carried on the side of industry and the service sector.

Although it has not received great attention as a policy focus over the last century, the importance of the supply side of any macroeconomy, with its myriad of small-, medium- and large-scale businesses, cannot be understated. One half of a symbiotic economic relationship, its long-term health is just as important to an economy as are the consumers who demand its goods and services. Striking an accord between the two, particularly since it policymaking in the arena comes from politically-motivated policymakers, is therefore no easy task.

Terms & Concepts

Capital: Domestic or foreign investment in an industry or industries within an economic system.

Demand: Consumer interest in products, goods and services within an economic system.

Economic Development: Concerted policymaking effort to establish economic infrastructures within a certain system.

Keynes, J.M.: Prominent 20th century economist who espoused demand-side policy reforms as a means to economic development and recovery.

Macroeconomy: An aggregate economic system comprised of supply and demand components.

Patient Protection and Affordable Care Act of 2010: Federal healthcare legislation enacted under President Barack Obama.

Reaganomics: Supply-side-oriented policymaking response of the early to mid-1980s, featuring, most prominently, significant business tax cuts.

Supply: Goods and services produced within an economic system.

Bibliography

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Companies going green with energy alternatives. (2006, March 29). CNBC.com Special Report. Retrieved October 26, 2007, from http://www.msnbc.msn.com/id/12040418/.

Filho, S., Jayme, F. G., & Libƒnio, G. (2013). Balance-of-payments constrained growth: a post Keynesian model with capital inflows. Journal of Post Keynesian Economics, 35, 373-398. Retrieved November 17, 2013, from EBSCO Online Database Academic Search Complete. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=87441584&site=ehost-live

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Suggested Reading

Kirkwood, L., Lee, J., Gillihan, A., Heppner, A. & Hickman, J. (2007). Massachusetts style health care reform and its impact on employers. Corporate Business Taxation Monthly, 9, 31-45. Retrieved October 27, 2007, from EBSCO Online Database Business Source Complete. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=27130176&site=bsi-live

Grant, T. (2005). Reagan and the supply-side legacy. American Drycleaner, 72, 44-46. Retrieved October 27, 2007, from EBSCO Online Database Business Source Complete. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=17285891&site=bsi-live

Kemp, J. (2007). Push for tax-cut permanency, then for more tax cuts. Human Events, 63, 1-8. Retrieved October 27, 2007, from EBSCO Online Database Academic Search Complete. http://search.ebscohost.com/login.aspx?direct=true&db=a9h&AN=23954705&site=ehost-live

Nevile, J.W. (1992/1993). Notes on Keynes' aggregate supply curve. Journal of Post-Keynesian Economics, 15, 255-260. Retrieved October 27, 2007, from EBSCO Online Database Business Source Complete. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=12019394&site=bsi-live

Tudor, H. (2004). Manufacturers post hefty price gains. ENR: Engineering News-Record, 253, 29. Retrieved October 27, 2007, from EBSCO Online Database Business Source Complete. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=15479559&site=bsi-live