Price and Decision Making Chapter 6

Price O The monetary value of a product as established by supply and demand. It is a signal that helps make our economic decisions.

Advantages of prices O Prices are neutral because they do not favor the buyer or the consumer. O They are a result of competition. O Prices are flexible, allowing for the shocks of unforeseen events and changes in the market. O Prices have no administration costs. O Prices are familiar and easily understood.

Allocations without prices O Such as the early 1970’s gas prices or during World War II. O Rationing, or the system where the government decides everyone’s “fair” share, leads to the question of fairness. O Rationing leads to high administrative costs. O Rationing leads to fewer incentives to work and produce.

Prices as a system O Together, prices comprise a system that helps buyers and sellers allocate resources between markets, linking all markets in the economy.

Price adjustment process O Together, demand and supply make a complete picture of the market. O Price adjustments help a competitive market reach market equilibrium, with fairly equal supply and demand. O Surpluses occur when supply exceeds demand. O Shortages occur when demand exceeds supply. O Equilibrium price is the price at which supply meets demand.

Competitive Price Theory O The theory of competitive pricing represents a set of ideal conditions and outcomes; it serves as a model to measure market performance. O In theory, a competitive market allocates resources efficiently. O To be competitive, sellers are forced to lower prices, which makes them find ways to keep their costs down. O Competition among buyers keeps prices from falling too far.

Rationing O Rationing- An alternative to the price system. Supply and pricing are controlled. O Ration coupon- A ticket that lets the ticket holder obtain certain amount of a product. This creates a high administrative cost.

Market Equilibrium O A situation in which prices are relatively stable and the quantity of goods and services supplied is equal to the quantity demanded.

Surplus O A situation in which the quantity supplied is greater than the quantity demanded at a given price.

Shortage O A situation in which the quantity demanded is greater than the quantity supplied at a given price.

Rebate O A partial refund of the original price of a product. O There is a new trend of using debit cards as rebates O Is this sneaky?

Distorting Market Outcomes O Achieving equity and security usually requires policies that distort market outcomes. O One way to achieve these goals is to set “socially desirable” prices, which interferes with the pricing system.

Price Ceiling O A maximum legal price that can be charged for a product. O Example: Rent controls on apartments in big cities. The government can set a price ceiling, or maximum rent.

Price Floor O The lowest legal price that can be paid for a good or service. O Minimum wage is a great example.

Health care around the world relative to price O Japan O The price book for services O What kind of price control is this? O Switzerland O Pharmaceutical companies must negotiate with the government to control prices O What kind of price control is this? O United Kingdom O Higher taxes, yet no medical bills

When markets talk O Markets “talk” when prices move up or down dramatically. O Buyers and sellers respond to changes in the market through their decisions. O Think of the last item you decided not to buy. What message did your decision send to the manufacturer?