1.2 How markets work Flashcards
What is the definition of demand?
The total amount of a good or service that people are willing and able to buy at a given price
What causes a change in demand?
- Change in disposable income
- Change in price of competitve products (the price of substitues)
- Change in price in complimentary goods
- Changes in taste and preference
- Change in population
- Change in the amount of advertising
- Speculation
What is the definition supply?
The amount of a product that producers are willing and able to provide at any given price
What causes a change in supply?
- Input prices (wages, rent, energy)
- Technology
- Prices of related goods
- Expectations of future prices
- Number of suppliers
- Taxes (indirect e.g- VAT and corporation tax)
- Subsidies
- Weather (natural disasters)
- Productivity
What is the market mechanism?
Interaction of demand and supply to allocate resources
What are the 3 functions needed for the market mechanism to operate?
- A rationing device (those who can afford it get it)
- An incentive device (more firms to enter the market)
- A signalling device (producers increase/ decrease production
What is PeD?
Measures the responsivness of quantity demanded to a change in price
PeD is always negative
What is the equation for PeD?
%change Qd / %change P
What effects PeD?
- Number of close substitutes
- Luxuries and necessities
- Percentage of income spent on a good
- Habit forming goods (smoking)
- Time period under consideration
-short run PeD inelastic
-long run PeD elastic
What does inelastic mean?
Less than proportionate change in demand to a change in price
any number between 0 and -1
What does elastic mean?
More than proportionate change in demand to a change in price
any number between -1 and -infinity
What is YeD?
Measures the responsivness of the quantity demanded to a change in income
What is the equation for YeD?
%changeQd / %changeincome
What does it mean if YeD is negative?
The product is inferior
So if income increases, then demand decreases and vice versa
What does it mean if YeD is positive?
The product is normal
If the YeD is between 0 and +1 then it is…
A necessity e.g - food, water
If the YeD is between +1 and +infinity it is…
A luxury e.g - designer handbag
What is XeD?
Measures the responsivness of demand for good X following a change in the price of good Y
If XeD is negative it is a complimentary good and if XeD is positive it is a substitute good
What is the equation for XeD?
%changeQdx / %changePy
What does it mean if XeD is between -infinity and -1?
It is a strong compliment and elastic
What does it mean if XeD is between -1 and 0?
It is a weak compliement and inelastic
What does it mean if XeD is between 0 and +1?
It is a weak substitute and inelastic
What does it mean if XeD is between +1 and +infinity?
It is a strong substitute and elastic
What is PeS
Measures the responsivness of quantity supplied to a change in price
What is the equation for PeS?
%changeQs / %changeP
What are determinates of PeS?
- Time Period
- Stocks
- Ease of entry
- Perishability
- Factor substitution
- Spare production capacity
- Artificial limits on supply
What are indirect taxes?
Taxes on suppliers in a market which affect their costs of production
What are examples of indirect taxes?
- Ad Valorem Taxes (a % of the unit cost of a good e.g - VAT)
- Specific Taxes (a fixed tax per unit of the good or service produced)
What is a subsidy?
A government grant for producers
