2. 1 Applying Economic Concepts Rationing Have you and your friends ever tried to share something–a candy bar, cake, or pizza–when there really wasn’t enough to go around? What are different ways to make allocations? Study Guide (cont.) Section 1 begins on page 137 of your textbook.

3. 2 Click the mouse button or press the Space Bar to display the information. Introduction Life is full of signals that help us make decisions.  For example, when we pull up to an intersection, we look to see if the traffic light is green, yellow, or red.  We look at the other cars to see if any have their blinkers on, and in this way we receive signals from other drivers regarding their intentions to turn.

4. 3 Introduction Doctors even tell us that pain is a signal that something is wrong with our body and may need attention.  It turns out something as simple as a price–the monetary value of a product as established by supply and demand–is a signal that helps us make our economic decisions. But have you ever thought about the signals that help us make our everyday economic decisions?  Introduction (cont.)

5. 4 Introduction (cont.) High prices are signals for producers to produce more and for buyers to buy less. Low prices are signals for producers to produce less and for buyers to buy more. Prices communicate information and provide incentives to buyers and sellers. 

6. 5 Did You Know? During the oil crisis in the early 1970s, the proposed gas rationing program raised serious differences of opinion among Americans. Some people argued that every adult American should get the same number of gas rationing coupons. Others argued that owners of newer, more fuel- efficient cars would not need as many coupons as owners of older, gas-guzzling models.

7. 6 Prices are neutral because they do not favor the buyer or the consumer. They are the result of competition.  Prices are flexible, allowing for the “shocks” of unforeseen events and changes in the market.  Advantages of Prices Prices have no administration costs.  Prices are familiar and easily understood.

8. 7 Click the mouse button or press the Space Bar to display the information. Allocations Without Prices Rationing, or the system where the government decides everyone’s “fair” share, leads to the question of fairness.  Rationing leads to high administrative costs.  Rationing leads to fewer incentives to work and produce.

9. 8 Click the mouse button or press the Space Bar to display the information. Section 2 begins on page 142 of your textbook. Key Terms –market equilibrium  –surplus  –economic model  –shortage  –equilibrium price 

10. 9 Applying Economic Concepts Equilibrium Price When something is at equilibrium, it tends to remain at rest. What causes prices to reach, and then stay at, equilibrium?

11. 10 Introduction One of the most appealing features of a competitive market economy is that everyone who participates has a hand in determining prices.  This is why economists consider prices to be neutral and impartial.  The process of establishing prices is remarkable because buyers and sellers have exactly the opposite hopes and desires.

12. 11 Click the mouse button or press the Space Bar to display the information. Introduction (cont.) Buyers want to find good buys at low prices. Sellers hope for high prices and large profits.  Neither can get exactly what they want, so some adjustment is necessary to reach a compromise.

13. 12 Together, demand and supply make a complete picture of the market.  Price adjustments help a competitive market reach market equilibrium, with fairly equal supply and demand.  Click the mouse button or press the Space Bar to display the information.

14. 13 Click the mouse button or press the Space Bar to display the information. The Price Adjustment Process (cont.)

15. 14 Surpluses occur when supply exceeds demand. The Price Adjustment Process (cont.) Click the mouse button or press the Space Bar to display the information.

16. 15 The Price Adjustment Process (cont.) Shortages occur when demand exceeds supply.  Click the mouse button or press the Space Bar to display the information.

17. 16 The Price Adjustment Process (cont.) The equilibrium price is the price at which supply meets demand. Click the mouse button or press the Space Bar to display the information.

18. 17 The Price Adjustment Process (cont.) Click the mouse button or press the Space Bar to display the information.

19. 18 Click the mouse button or press the Space Bar to display the information. A change in price is normally the result of a change in supply, a change in demand, or both. Explaining and Predicting Prices

20. 19 Explaining and Predicting Prices (cont.) Even small changes in an inelastic supply can create big changes in price. 

21. 20 Explaining and Predicting Prices (cont.) Elastic supply and demand help keep prices from changing dramatically.

22. 21 The Competitive Price Theory Click the mouse button or press the Space Bar to display the information. The theory of competitive pricing represents a set of ideal conditions and outcomes; it serves as a model to measure market performance.  In theory, a competitive market allocates resources efficiently.  To be competitive, sellers are forced to lower prices, which makes them find ways to keep their costs down.  Competition among buyers keeps prices from falling too far.

23. 22 Key Terms –minimum wage  –price floor  –price ceiling  Study Guide (cont.) –target price  –nonrecourse loan  –deficiency payment 

24. 23 Applying Economic Concepts Price Floor Chances are that you have worked for the minimum wage at some time in your life. Why is this an example of a price floor? Study Guide (cont.)

25. 24 Click the mouse button or press the Space Bar to display the information. Introduction (cont.) Attempts to achieve the other two goals—equity and security—usually require policies that distort market outcomes.  In other words, we may have to give up a little efficiency and freedom in order to achieve equity and security.  Whether this is good or bad often depends on a person’s perspective.

26. 25 Click the mouse button or press the Space Bar to display the information. Introduction After all, the person who receives a subsidy is more likely to support it however, it is usually wise to evaluate each situation on its own merits, as the benefits of a program may well exceed the costs.  What is common to all of these situations, however, is that the outcomes can be achieved only at the cost of interfering with the market. Introduction (cont.)

27. 26 Distorting Market Outcomes Achieving equity and security (two of the seven broad economic and social goals) usually requires policies that distort market outcomes.  One way to achieve these goals is to set “socially desirable” prices, which interferes with the pricing system.  Setting price ceilings affects the allocation of resources.  The minimum wage is an example of a price floor.

28. 27 Distorting Market Outcomes (cont.)

29. 28 Distorting Market Outcomes (cont.)

30. 29 Agricultural Price Supports Government loan support was offered in the 1930s through Commodity Credit Corporation to help stabilize agricultural prices. The CCC loan program led to food surpluses.  The CCC switched to deficiency payments, which prevented the government from holding surplus food and had farmers sell their crops on the open market.

31. 30 Click the mouse button or press the Space Bar to display the information. Agricultural Price Supports (cont.) In 1996, Congress passed FAIR—Federal Agricultural Improvement and Reform Act. Cash payments replaced price supports and deficiency payments. The payments ended up costing as much. In 2002, farmers will no longer receive any kind of payments.

32. 31 Click the mouse button or press the Space Bar to display the information. Markets “talk” when prices move up or down dramatically.  Buyers and sellers respond to changes in the market through their decisions. When Markets Talk

33. 32 Section 1: Prices as Signals Prices serve as signals to both producers and consumers. In doing so, they help decide the three basic WHAT, HOW, and FOR WHOM questions that all societies face.  High prices are signals for businesses to produce more and for consumers to buy less. Low prices are signals for businesses to produce less and for consumers to buy more.  Prices have the advantages of neutrality, flexibility, efficiency, and clarity.

34. 33 Section 1: Prices as Signals (cont.) Other nonprice allocation methods such as rationing can be used. Under such a system, people receive ration coupons, which are similar to tickets or receipts that entitle the holder to purchase a certain amount of a product.  Nonprice allocation systems suffer from problems regarding fairness, high administrative costs, and diminished incentives to work and produce.  A market economy is made up of many different markets, and different prices prevail in each. A change in price in one market affects more than the allocation of resources in that market. It also affects the allocation of resources between markets.

35. 34 Section 2: The Price System at Work Economists often use an economic model to help analyze behavior and predict outcomes. Models of economic markets are often represented with supply and demand curves in order to examine the concept of market equilibrium, a situation in which prices are relatively stable, and the quantity of output supplied is equal to the quantity demanded.  In a competitive market, prices are established by the forces of supply and demand. If the price is too high, a temporary surplus appears until the price goes down. If the price is too low, a temporary shortage appears until the price rises. Eventually the market reaches the equilibrium price where there is neither a shortage nor a surplus.

36. 35 Section 2: The Price System A change in price can be caused by a change in supply or a change in demand. The size of the price change is affected by the elasticity of both curves. The more elastic the curves, the smaller the price change; the less elastic the curves, the larger the price change.  The theory of competitive pricing represents a set of ideal conditions and outcomes. The theory serves as a model by which to measure the performance of other, less competitive markets. Because of this, absolutely pure competition is not needed for the theory of competitive pricing to be practical.

37. 36 Section 3: Social Goals vs. Market Efficiency Governments sometimes fix prices at levels above or below the equilibrium price to achieve the social goals of equity and security.  If the fixed price is a price ceiling, as in the case of rent controls, a shortage usually appears for as long as the price remains fixed below the equilibrium price.  Agricultural price supports were introduced during the 1930s to support farm incomes. Nonrecourse loan support programs allowed farmers to borrow against crops, and then keep the loan and forfeit the crop if market prices were low.

38. 37 Section 3: Social Goals vs. Market Efficiency (cont.) Later, deficiency payments were used, supplying the farmer with a check that made up the difference between the target price and the actual price received for the product.