SFLS Price mechanism

Functions of the Price Mechanism

What Economics isEconomics is a social science, attempting to study people, their behavior, and the choices that they make.

Definition:1.) What to produce.2.) How much to produce.3.) How to produce it.4.) Who to produce it for.

So economics is about

answering these

questions….

Ways to interpret Economic theory

Positive economics is the study of what is

结果是基于数据 Normative economics

is the study of what should be 是基于你的愿望是什么结果

And there are these two ways to view things…

You ever stop and think about how amazing it is that this world

works together the way it does? isn’t it amazing that we have the things we do, that strangers all over the world are will to work together to provide things for

each other?

Coffee and Sugar pics of me

Take coffee for example. I, super, super, super, love

coffee…

It wouldn’t be possible for me to have it without a

system that combines people from all over the world to

provide it.

Another way to look at it, is exactly how somethings get

done. For example, we usually think governments provide

trains, right? But is that always the case?

Governments don’t invent trains. Private individuals with a goal, they invent

trains.

So here is a question:

What is the best way to allow people of the world to achieve the things they want?

1.) Command economy

- Government plays the central role in market

decision making

i.) What to produce.ii.) How much to produce.iii.) How to produce it.iv.) Who to produce it for.

Determined by Government preferences.

This is one way to answer it...

2.) Free market economy

- Decisions about how to allocate resources are left up to people themselves

i.) What to produce.ii.) How much to produce.iii.) How to produce it.iv.) Who to produce it for.

Determined by consumers preferences

Determined by producers seeking profits

Determined by purchasing power

This is the other way, and the one that we

will describe.

Question:

There are different ways to view things and different ways to ask, and answer, questions. So we will ask a slightly different question about what we have studied so far…

How are prices determined?Question:

This is the way we’ve asked the question so far with the supply and demand that we have studied.

Answer:


And this is the way we have viewed it.

Answer:


结果是基于数据

Supply and Demand Baby!


What do prices do?Question:

To ask the question in a slightly different way...

Adam Smith’s famous book The Wealth of Nations

“invisible hand of the price mechanism”

in which the hidden-hand of the market operating in a competitive market through the pursuit of self-

interest allocated resources in society’s best interest.

This is similar to how Adam Smith asked this question and tried to answer it.


Supply and Demand – Market Equilibrium

Answer:




1st question

What do prices do?Question:

The functions of the price mechanism

Answer:




2nd question

The Price Mechanism

- describes the means by which millions of decisions taken by consumers and

businesses interact to determine the allocation of scarce resources between

competing uses.

Price Mechanism

1.) Signaling Function


- They adjust to where resources are required, and

where they are not.

- Prices rise and fall to reflect scarcities and surpluses.

Price

Quantity

70 10 1513 17

$2.00

1.75

1.50

1.25

1.00

0.75

0.50

Supply

Demand

E Equilibrium


Demand

If prices are rising because of high demand from

consumers, this is a signal to suppliers to expand production to

meet the higher demand

New Equilibrium

Price

Quantity

70 10 1513 17

$2.00

1.75

1.50

1.25

1.00

0.75

0.50

Supply

Demand

E Equilibrium

S

If there is excess supply in the market the

price mechanism will help to eliminate a

surplus of a good by allowing the market

price to fall.

New Equilibrium


70 10 1513 17

$2.00

1.75

1.50

1.25

1.00

0.75

0.50

Supply

Demand

9.1 11.5

E

Shortage

Quantity demanded

Quantity

supplied

Price

Quantity

Shortage

A shortage is a signal that the price is too low.

70 10 1513 17

$2.00

1.75

1.50

1.25

1.00

0.75

0.50

Supply

Demand

8.1 11.2

E

Surplus

Quantity demanded

Quantity

supplied

Price

Quantity

Surplus A shortage is a signal that the price is too high.

1.) Signaling Function1.5)Transmission of preferences

- Through their choices consumers send information to producers about the changing nature of needs and wants.


{

I assume you would pay a large amount for an iphone 6, right?

{Would you pay a lot for an iphone 2? Prices let producers know your preference.


2.) Incentives function

1.5.) Transmission of preferences


Incentives matter! For competitive markets to

work efficiently all ‘economic agents’ (i.e. consumers and producers) must respond to appropriate price signals

in the market.

Price

Quantity

70 10 1513 17

$2.00

1.75

1.50

1.25

1.00

0.75

0.50

Supply

Demand

E Equilibrium

2.) Incentive Function

Demand

If prices are rising because of high demand from

consumers, this give a incentive to increase

production to meet the higher demand.

New Equilibrium

{Prices motivate behavior to do, or not do, things.


3.) Rationing function -Prices serve to ration

scarce resources when demand in a market

outstrips supply.



Unlimited wantsLimited resources

Prices help figure out how to deal with this problem.

1.) Signaling function

3.) Rationing function


Prices transmit information about changing resource scarcity and changing consumer values.

Prices provide information


2.) Incentive function

So to Summarize ….

1.) Signaling function



Prices transmit information about changing resource scarcity and changing consumer values.

Prices provide information



However…

Prices don’t always work

Failures of the Price Mechanism 1.) Signaling function




This system of prices has allowed people to do more, have more, and make their lives better…

This system we have works amazingly well, but it is not perfect…

{It doesn’t mean everyone is equal…

And not everyone has the same information to respond in good ways.

The price system, is a system no one designed. It is a collect of experiences how humans interact with each other and is one of the most amazing things humans have created.

As great and amazing as it is, it is still not perfect…

The price system, is a system no one designed, it is a collect of experiences how humans interact with each other and is one of the most amazing things humans have created.

As great and amazing as it is, it is still not perfect…

The price system, is a system no one designed, it is a collect of experiences how humans interact with each other and is one of the most amazing things humans have created.

In the next few topics, we will examine some of the failure and attempts to overcome them.

The End Thank you

SFLS Price mechanism

Education

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