1. October 3&4, 2011

2.  Rationing in market economies: – Price Rationing – The Invisible Hand: A force that guides free markets and capitalism through competition for scarce resources Answering the Big Questions: – “What to Produce?” – Firms only produce those goods and services consumers are willing and able to pay for – “How to Produce?” – Firms use those resources and technologies that they are willing and able to pay for

3.  Signals: Prices communicate information to decision-makers Incentives: Prices motivate decision-makers to respond to the information

4. Resource Owners: What and how much to sell Resource Owners: What and how much to sell Consumers: What and how much to buy Consumers: What and how much to buy Firms: What/how much resources to buy; What/how much to produce and sell

5. Q P S D- 1 Q-1 P-1 Signal & Incentive Shortage D- 2 Q-2 Q-3 P-2 ProducersConsumers SignalShortage!More expensive! IncentiveProduce more!Buy fewer!

6. Q P Signal & Incentive S-1 D Q1Q1 W1W1 W2W2 Q3Q3 Surplus S-2 Q2Q2 Producers/LaborConsumers/Firms SignalLower wage!Surplus! IncentiveOffer less labor!Hire more!

7.  What are the key functions of prices in competitive markets?  How are markets related to price rationing?  How do prices help answer the how and what questions of resource allocation?  Consider the coffee market…  Consider the labor market…

9.  Productive (technical) efficiency ◦ “How to” produce ◦ Producing at the lowest possible cost ◦ Producing at the PPC (can’t produce more of one good without producing less of another)

10.  Allocative efficiency ◦ “What to” produce ◦ Combination of goods most wanted by society ◦ Producing such that can’t improve one person’s utility without harming another person’s utility ◦ Scarce resources are used to best satisfy consumers’ unlimited wants

11. Reframe…  Demand Curve = Marginal Benefit (see page 34)  Supply Curve = Marginal Cost

12.  Consumer Surplus ◦ The highest price consumers are willing to pay minus the price actually paid  Producer Surplus ◦ Price received by firms minus the lowest price they are willing to accept ◦ http://www.tutor2u.net/economics/presentations/a seconomics/markets/ConsumerProducerSurplus/de fault.html http://www.tutor2u.net/economics/presentations/a seconomics/markets/ConsumerProducerSurplus/de fault.html

13. Q P S = MC D = MB QeQe PePe Consumer Surplus Producer Surplus

15.  Graphically: ◦ The price point where Q s = Q d ◦ The point where Supply intersects Demand  Marginal Benefit = Marginal Cost ◦ Benefit of consuming one more good equals the Cost of supplying one more good ◦ Society has reached allocative efficiency  Consumer Surplus + Producer Surplus are maximized Does this ever occur?