2.3 - Competitive Market Equilibrium Flashcards
Define equilibrium
Equilibrium in markets occurs when demand equals supply and the market clearing price and output are established.
Define disequilibrium
If the price of a good is not at equilibrium level there is natural market pressure to push it to the equilibrium price.
Define the rationing function of price
Price has a rationing function because it distributes goods so there are no shortages and surpluses.
State the 3 functions of the price mechanism
- Allocation of resources
- The signaling function of price
- The incentive function of price
Define the allocation of resources in terms of the price mechanism
The distribution of the factors of production into different markets in the economy.
Define the the signaling function of price in terms of the price mechanism
Provides producers and consumers with information to make decisions on how they might act in response to the price change.
Define the incentive function of price in terms of the price mechanism
Once a price change has sent a signal to consumers and producers, they react to the price change based on the incentive to try and maximise their profits, in the case of producers and utility in the case of consumers
Define allocative efficiency
- Allocative efficiency occurs when the quantity of resources allocated to a market maximizes the community of social surplus in that market.
- Producer and consumer surplus are both maximized
- Occurs when demand equals supply in a market.
Define consumer surplus
The difference between the price the consumer is willing to pay for a good and the market price of that good.
Define producer surplus
The difference between the price the producer is willing to sell their good for a good and the market price of that good.
Social (community) surplus
Welfare is maximized in society when the social or community surplus in a market is maximized.
State what each color represents
Yellow - Consumer surplus
Green - Producer surplus
Draw a diagram showing social surplus
