1.2.7 Unit content Students should be able to: Describe the functions of the price mechanism to allocate resources (rationing, incentives and signalling) Give examples of the price mechanism in the context of different markets, including local, national and global markets

Draw a demand and supply curve showing excess supply

Signalling function This situation of excess supply is an example of the signalling function of price: the market __________ to suppliers that they have oversupplied the products and if they are to sell it the price must _______

Incentive function This also shows the incentive function: the market is indicating to suppliers that too many resources have been allocated to this product as more has been produced than consumers wish to buy. As prices fall there is less _________ for them to supply this market and a greater incentive to supply other markets as profits are likely to be _________

Draw a diagram to show excess demand.

Increased price – signals, incentives and rationing The pressure on price is to rise and so price is performing all three of its functions. Increased prices _________ to suppliers that more of its product needs to be produced. Increased prices mean more profits for firms, which creates ___________ to supply more. As prices rise demand contracts along the demand curve as consumers ____________ themselves until equilibrium is reached

Signals Signals sent out by prices are very important for the market to function efficiently as at low prices they inform consumers that the product is a bargain (___________ the expected price) and more of it should be consumed, while in conditions of excess supply they signal to suppliers that they should produce _______

Summary – price mechanism The ________________is the way in which resources are allocated in a market economy. Price ___________ the available resources among competing buyers. Prices ______ the strength of the market to producers. Rising demand tends to push up prices. This gives producers higher profits, which act as an _________ to increase the quantity supplied.

Summary – market mechanism So the market mechanism is the process by which market forces determine _______ The market mechanism can: cause supply to respond to changes in demand eliminate excess supply and demand signal changes in consumer tastes What won’t the market mechanism necessarily ensure?

Example – fur coats Assume that the demand for fur coats falls because of lobbying from animal welfare groups. Draw a diagram showing this and write an explanation – you must use the phrases: excess supply Signal (or signalling) Incentives

Example – oil Assume that the supply of oil falls. Draw a diagram showing this and write an explanation – you must use the phrases: excess demand Signal (or signalling) ration

Agricultural markets Agricultural markets are strongly affected by supply conditions e.g. ____________ Prices tend to be volatile because of changes in supply. e.g. what happens to crops after a bad winter? Sketch this.

Precious metals Bauxite is a metal used to make aluminium. Who buys aluminium (households or firms)? What happens during a recession? Plot this What would be the effect if supply was fairly inelastic (unresponsive to changes in price)?

Oil Why is the oil market so important? Who is a key influence on the price of oil?

Graph showing oil prices over time

The housing market – owner occupiers How do people occupiers usually fund their house purchase? Are interest rates currently high or low? What effect has this had on demand? Plot this - what do you notice (explain your graph)?

What is the stock market? Why do firms sell shares?

Stock market and the future What happens if people believe that the stock market will fall?