Price as Signals

Price is the monetary value of a product as established by supply and demand.

Prices do more than convey information to buyers and sellers in a market. Prices help buyers and sellers allocate resources more effectively and efficiently.

Without Prices you would have to use a different system to allocate the what, how and for whom allocation.

Rationing – a system where government decides everyone’s “fair share” is one answer.

Note! Is this system fair? Is it cost effective? Does it diminish individual incentive?

Equilibrium is the condition where two forces balance one another.

Equilibrium quantity is the quantity that is both demanded and supplied at the equilibrium price.

Equilibrium price is the price at which the quantity demanded equals the quantity supplied.

Market Equilibrium In a competitive market, the adjustment process moves toward market equilibrium.

Surplus is the condition in which the quantity supplied is greater than the quantity demanded at a certain price.

Shortage is the condition in which the quantity demanded is greater than the quantity supplied at a certain price.

The equilibrium price is the price that “clears the market” by leaving neither a surplus or shortage at the end of the trading period.

Governmental involvement if the allocation of goods and services distorts market outcomes.

When government sets prices at “socially desirable” levels the price system cannot transmit accurate information to other buyers and sellers in the market.

Government intervention is the condition where government sets prices.

Price ceiling - maximum legal price that can be charged for a product.

Price floor - lowest legal price that cab be paid for a good or service.

This intervention occurs when government feels the market system is not working.

Price supports are most evident in agriculture. The US Department of Agriculture tinkers with the free market system using target prices, land banking, and price supports to alter market forces.

Target Price – essentially a price floor

Deficiency payment – a check for the difference between the target price and the market price

Nonrecourse loans – a loan that carries neither a penalty or obligation to repay the loan

Markets are impersonal mechanisms that bring buyers and sellers together. Markets are said to “talk” when prices in them move up or down significantly in reaction to events that take place elsewhere in the economy.