Notesale: Turn your study into money

Document Preview

Extracts from the notes are below, to see the PDF you'll receive please use the links above

---

3
...
1 Equilibrium

We can combine demand and supply to analyze markets more completely
...
There is no surplus product nor are there
shortage of supply at that price
...
As they do, more
quantity is demanded and producers reduce the production
...


Excess demand
When excess demand exists, market forces take over
• With relatively scarce amounts of the good on the market at that price, some consumers start
to bid the price higher in an attempt to get more of the good
• As the product disappear very quickly, producers realize they can charge a higher price
...


Unless compelled by law, market forces will urge producers and consumers towards a marketclearing price where everything offered is purchased
...

• When in balance, it requires some external force or event to change them

Shifts in supply or demand with change market equilibrium (market clearing price & quantity)

Shifts of demand

Increase in demand (pomegranate) --> shift to right --> excess demand --> producers realize they
can raise price --> they produce more --> movement upward along the supply curve --> consumers
see higher prices --> decrease the quantity demanded
• Equilibrium price are higher and quantity is greater

Decrease in demand (e
...
decrease in country's income - car) --> shift to left --> temporary surplus -> producers cut prices to entice buyers --> increase quantity demanded --> moving down the new
demand curve
• Equilibrium price is lower and quantity is fewer

Shifts of supply

Synthetic rubber --> cheaper than natural rubber --> cost of production go down

Supply curve shifts right --> temporary surplus --> cutting prices and selling off excess supply -->
demand increase --> movement along demand curve
• Lower equilibrium price for higher equilibrium quantity

Deep winter freeze --> damaged orange crops in Greece, Italy, Spain and Cyprus --> orange juice cost
of p increases

Supply curve shift left --> temporary shortage --> increasing price --> consumers respond by
decreasing the quantity demanded


3
...
3 Role of price in resource allocation

Signaling and incentive functions of price

Our wants are unlimited compared to the limited resources --> scarce --> choice of how to use those
resources

All such choices involve cost - opportunity cost - this makes the system of resource allocation all the
more important

In competitive markets --> buyers and sellers come to a settlement or agreement on the
appropriate market price (not done by central govt) --> it occurs when countless buyers and sellers,
each making rational choices about their scarce resources, make the best decision for themselves
...


When a resource/product rise in price --> buyers and producers act accordingly
• Buyers: buy less of the product --> ration their income and use of products to maximize utility
• Producers : produce more of product --> produce more as price as revealed scarcity in that
market

Thus when market is free and competitive --> price information they emit acts as a signal to all
market actors

 - The signaling function of the price system allows this decentralized system of actors to make
decisions for themselves and at the same time tell the world what is important to them, what is
worth producing
...
This is
what Adam Smith referred to when he coined the term the "invisible hand of the market
...



3
...

• E
...
DVD selling price is $15 but 5 million ppl are willing to buy for $25… these ppl will get an
extra benefit worth $10 to each of them

Consumer surplus = price willing to pay - actual market price

Decrease in price --> increase of consumer surplus, ceteris paribus
...


Producer Surplus

Producer surplus: is the benefit producers receive when they receive a price above the one at which
they were willing to supply the good
...

• Achieved if society produces enough of a good so that marginal benefit is equal to marginal
cost
• Directly relates to the question, "What should be produced?"


•
•
•
•

Marginal benefit derived from any good tends to drop as more is consumed
Marginal costs tend to rise as more is made
Marginal cost(supply) tends to slope upwards
Marginal benefit (demand) tends to slope downwards

•

Allocative efficiency asks whether a market produces what consumers want, and part of the
answer comes from the demand/marginal benefit curve
...




•

•
•





---