Spare Capacity and Elasticity of Supply (Chain of Analysis)

Explain how the level of spare capacity affects price elasticity of supply

Price elasticity of supply measures the relationship between a change in quantity supplied and a change in a product’s price.

Spare capacity exists when the current level of production is below that max output possible in the short run. This means there are spare labour and capital inputs available.

If there is spare capacity then a business can increase output without a rise in unit costs and thus supply will be price elastic if there is an outward shift of demand.

Supply is elastic if the coefficient of PES is greater than +1. E.g. a construction company might have spare capacity towards the end of a recession.