1.6 Functions of the Price Mechanism

Question 1

What is the Price Mechanism ?

Answer 1

Decisions taken by consumers and businesses interact to determine the allocation of scarce resources between competing users

Question 2

What are the main three functions of the Price Mechanism ?

Answer 2

• Signalling
• Incentive
• Rationing

Question 3

What does signalling in the Price Mechanism do ?

Answer 3

Prices change to indicate where resources are needed

Question 4

How does Signalling Consumer Demand in the Price Mechanism work ?

Answer 4

If market price rises because of rising demand , signals to producers to expand production to increase supply.

Question 5

How does Signalling Availability to Consumers in the Price Mechanism work ?

Answer 5

If Market Price Falls with higher supply , signals to consumers to expand their demand

Question 6

What is the Incentive Function in the Price Mechanism ?

Answer 6

Prices encourage producers and consumers to change their behavior

Question 6

How do Incentives For Consumers work in the Price Mechanism ?

Answer 6

Consumers have more incentive to consume goods after supply increases as the price will be lower.

Question 6

How do Incentives For Producers work in the Price Mechanism ?

Answer 6

Suppliers have the incentive to produce more when demand is high as they will make profit.

Question 7

What is the Rationing Function ?

Answer 7

Prices discourage demand when resources are scarce

Question 8

How do Rations Demand work in the Price Mechanism ?

Answer 8

When demand increases there will be a shortage where only those who pay the higher price can afford them.

Question 9

How do Rations Supply work in the Price Mechanism ?

Answer 9

When supply falls the price will rise causing demand to contract .