1.2.6 Price determination

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    a) Equilibrium price and quantity and how they are determined
    Market equilibrium – planned demand is equal to planned supply – no incentive for buyers and sellers to change their market plans – no excess demand or excess supply
    Price at which both the supplier and the buyer are willing and able to sell and buy
    b) The use of supply and demand diagrams to depict excess supply and excess demand

    c) The operation of market forces to eliminate excess demand and excess supply
    Excess demand (shortage) – quantity demanded is greater than quantity supplied
    Excess supply (glut) – quantity supplied is greater than quantity demanded
    If excess demand or supply exists then market is in disequilibrium
    Excess demand
    Eliminated via the following the market clearing process
    Excess demand is unsustainable as consumers aim to maximise utility.
    Consumers bid up the price against each other in order to obtain the good or service – this has a rationing effect as some consumers who can no longer afford the higher price leave the market.
    Overall effect – quantity demanded falls as the price increases
    Increases in price signals information to producers that there has been a change in the market and gives them an incentive to increase supply
    Process continues until demand is equal to supply and equilibrium is reached at a higher equilibrium price and quantity
    Excess supply
    Eliminated via the price mechanism
    If there is excess supply producers will reduce their prices in order to sell unsold goods.
    Some producers will make a loss and leave the market because they don’t have an incentive to produce which reduces the quantity supplied to the market.
    Signalling function of price leads to consumers changing their plans based on the information they receive from falling prices.
    The falling price causes an increase in demand
    Process continues until the quantity demanded is equal to the quantity supplied and equilibrium is reached at a lower equilibrium price and quantity

    d) The use of supply and demand diagrams to show how shifts in demand and supply curves cause the equilibrium price and quantity to change in real-world situations
    Disequilibrium – caused by excess demand or supply – can be caused by government intervention.
    Changes in equilibrium
    Changes in non-price determinants of demand and/or supply leads to a market moving to a new equilibrium

     

     

     

     

     

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