1.2.7 Price mechanism

Question 1

What are the key functions of Price Mechanisms in a Free Market Economy?

Answer 1

• Rationing device – market forces will ensure that the amount demanded is exactly equal to the amount supplied
• Incentive – the prospect of making a profit acts as an incentive to firms to produce goods and services
• Signaling device to producers to INCREASE or DECREASE the amount supplied
• Determine changes in wants – a change in demand will be reflected in a change in price

Question 2

The Price Mechanisms in different types of markets

Answer 2

• Local markets: farm shops are an example since the product is grown and sold locally
• National/Global markets: goods such as wheat, rice, or certain types of labour, e.g. nurses and teachers.