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MicroEconomics > 3 - Price Determination > Flashcards

3 - Price Determination Flashcards

1
Q

What is a competitive market?

A

One where there are lots of sellers and buyers.

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2
Q

How is price determined in a competitive market?

A

Decisions on price are made by the overall market, and are usually fairly similar.

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3
Q

What happens when price is increased in a competitive market?

A

Some will stop buying the product completely, switching to a cheaper version, and some will buy less of the product.

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4
Q

What is the effect of market decisions?

A

They decrease the quantity demanded.

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5
Q

What does the demand curve of the graph show?

A

The relationship between the price of a good, and the quantity demanded.

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6
Q

What is the difference between movement along the demand curve, and s shift of the curve?

A

Movement along the demand curve only happens when the price changes. Shift of the demand curve happens when other factors shift the demand curve.

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7
Q

Which factors, other than price, affect the demand curve?

A

Seasons/Weather, Trends, Health, Information, birth rate, age of population, income levels, celebrity endorsement.

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8
Q

Which factors will fix the position of the demand curve?

A

The price of substitute goods, price of complementary goods, preferences, population size.

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9
Q

What are the examples of complementary goods?

A

Printers and Ink, Fish and Chips, Phones and phone chargers.

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10
Q

What are the examples of substitute goods?

A

Coke and Pepsi, Celebrations and Heroes.

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11
Q

What are the examples of inferior goods?

A

Buses, Aldi, Iphone 7, Economy Flights.

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12
Q

What are the examples of normal goods?

A

Cars, M and S, Iphone 15, Business Class.

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13
Q

What is the impact of a wet summer on demand for shorts?

A

An inward shift of the demand curve, from D1 to D2, because of poor weather conditions, causing a decrease in demand, resulting in a fall in quantity from Q1 to Q2.

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14
Q

What is the impact of a celebrity endorsement on a pair of trainers?

A

An outward shift of the demand curve, from D1 to D2, because of a celebrity endorsement, resulting in a fall in quantity from Q1 to Q2.

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15
Q

What does the law of supply state?

A

As the price of a product rises, businesses expand supply, because higher prices provide profit incentive for firms to expand production.

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16
Q

What does the supply curve show?

A

The relationship between market price, and how much of a firm can, and will, sell.

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17
Q

Why is the supply curve usually upward sloping?

A

Economists assume firms have the objective of maximising profit, as it continues to supply more of a good, as it’s profitable to do so.

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18
Q

Which factors cause a contraction of the supply curve?

A

Price of a product.

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19
Q

Which factors cause a shift in the supply curve?

A

Wage costs, raw material costs, energy costs, technical progress, taxes, subsidies.

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20
Q

Which factors cause a leftward shift of the supply curve?

A

Increase in wage costs, costs of production, firms leaving the market.

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21
Q

Which factors cause rightward shift of the supply curve?

A

Technical progress, reduction in production costs, firms entering the market.

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22
Q

What is the impact of government subsidies on the production of new electric cars?

A

As companies’ costs are reduced, they can produce more, as production costs have reduced, shifting the supply curve from S1 to S2.

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23
Q

What is the impact of passenger duty on the availability of short haul flight tickets?

A

The increase in tax means that supply decreases, as it costs more for an airline to take each passenger on a flight, resulting in quantity going from Q1 to Q2, shift in supply curve from S1 to S2.

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24
Q

What does an above equilibrium price mean for supply?

A

Excess Supply.

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25
Q

What are the factors which cause excess supply?

A

Increase in Supply, decrease in demand.

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26
Q

Why does an increase in supply cause excess supply?

A

It leads to lower unit costs, leading to companies producing more.

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27
Q

Why does a decrease in demand cause excess supply?

A

Adverse news stories lead to lower demand, as well as a fall in the price of substitutes.

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28
Q

What are the factors which cause excess demand?

A

Decrease in supply, increase in demand.

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29
Q

How does a decrease in supply cause excess demand?

A

Higher unit costs are a result of this, as well as higher raw material prices.

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30
Q

How does an increase in demand cause excess demand?

A

A successful advertising campaign, and an increase in the price of substitutes.

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31
Q

What is the impact of a good harvest on the supply of apples?

A

Good harvest, supply increases, supply curve shifts outwards, fall in price, increase in quantity.

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32
Q

What is the impact of a medical article suggesting herbal tea has health benefits?

A

Demand increases, demand curve shifts outwards, price increases, quantity increases.

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33
Q

Why does P1 show a disequilibrium price on an excess supply diagram?

A

Firms want to supply Q2, but households are only willing to purchase Q1, so sellers can’t fulfil their plans.

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34
Q

Why does Q2 show a disequilibrium in supply?

A

Households can buy exactly the quantity they want, but producers want to sell Q2, so if households don’t buy as many as are made, there is excess supply.

35
Q

Why does P2 show a price disequilibrium?

A

Households are unable to buy as much as they would like to, at the current price. Households want to buy Q2, firms are only supplying Q1. Represents excess demand.

36
Q

What are the four functions of the price mechanism?

A

Signalling, Incentive, rationing, allocative.

37
Q

What are the alternatives to the price mechanism?

A

Barter system, central planning, rationing, waiting lists, lottery system, merit based allocation.

38
Q

How do prices co-ordinate decision making of buyers and sellers?

A

Producers will use the most efficient methods of production to them at the time, to cut costs. Consumers buy from sellers who charge the highest price.

39
Q

What are the advantages of the price mechanism?

A

Flexible to changing market conditions, efficient allocation of resources, ability to adapt to changes in the market.

40
Q

What are the disadvantages of the price mechanism?

A

Inequality of wealth is likely, people with limited abilities may suffer unemployment, public goods aren’t produced.

41
Q

What do free market economists believe?

A

The price mechanism works because it’s better to have market failure than government failure.

42
Q

What do intervention economists believe?

A

Markets often perform badly, government intervention can improve on free market of markets.

43
Q

What is price elasticity of demand?

A

The responsiveness of quantity demanded of a good or service to a price change.

44
Q

What is the formula for percentage change?

A

Change/original value x 100.

45
Q

What does a PED of >1 mean?

A

It means that quantity changes more than price, so there is price elastic demand.

46
Q

What does a PED of <1 mean?

A

Quantity has changed less than price, so there is less price inelastic demand.

47
Q

What is price inelastic demand?

A

If price goes up, demand would fall a little, as the same people would likely still buy it, but not as much. e.g. Petrol.

48
Q

What is unitary elasticity?

A

The value of PED is 1, and demand will drop by the same amount as price.

49
Q

What does perfectly elastic demand look like?

A

A perfectly horizontal line.

50
Q

What does perfectly inelastic demand look like?

A

A perfectly vertical line.

51
Q

Which factors determine price elasticity of demand?

A

Substitutability, percentage of income, necessities or luxuries.

52
Q

How does substitutability affect price elasticity of demand?

A

If there is a substitute for a product, consumers will switch their expenditure away from the good, and buy the substitute.

53
Q

How does percentage of income affect elasticity of demand?

A

Demand curves for goods or services on which households spend a large proportion of their income are more elastic than small items.

54
Q

How is elasticity of demand affected by whether the good is a necessity or a luxury?

A

Demand for necessities is usually price inelastic, demand for luxuries is usually elastic.

55
Q

How does width of the market definition affect elasticity of demand?

A

The wider the definition of the market, the lower the elasticity of demand, Demand for bread produced by a particular bakery is likely to be more elastic than demand by all bakeries.

56
Q

How does time affect elasticity of demand?

A

Demand is usually more elastic in the long run than in the short run.

57
Q

What does it mean if total consumer expenditure increases in response to a price fall?

A

Demand is elastic.

58
Q

What does it mean if total consumer expenditure decreases in response to a price fall?

A

Demand is inelastic.

59
Q

What is income elasticity of demand?

A

Measures the extent to which the demand for a good changes in response to a change in income.

60
Q

What does income elasticity of demand depend on?

A

If the good is normal or inferior.

61
Q

What happens as disposable income increases?

A

Demand for normal goods will shift rightwards. Demand for inferior goods shifts leftwards.

62
Q

What is income elasticity of demand for inferior goods?

A

Always below 0.

63
Q

What is income elasticity for normal goods?

A

Always above 0.

64
Q

How can normal goods be divided?

A

Necessities and luxuries.

65
Q

What is the equation for income elasticity of demand?

A

IED= % change in quantity demanded/% change in income.

66
Q

What are luxuries?

A

Products where income elasticity is more than one. More is spent on luxuries as a proportion of income, as income grows.

67
Q

What are necessities?

A

Income elasticity is more than 0, less than 1. Less is spent as a proportion of income, as income grows.

68
Q

What happens to demand for inferior goods as income rises?

A

It falls, as consumers switch to better alternatives, which become more affordable.

69
Q

What happens to demand for normal goods, as income rises?

A

Increases as consumers have more disposable income, so they can afford things they couldn’t before.

70
Q

What is cross elasticity of demand?

A

Measures the extent to which which the demand for a good changes in response to a change in the price of another good.

71
Q

What is the equation for cross elasticity of demand?

A

XED = % change in quantity demanded/% change in price of another good.

72
Q

What are the three types of cross elasticity?

A

Complementary goods, Substitutes, Absence of discernible demand relationship.

73
Q

What type of cross elasticity do complementary goods have?

A

Negative - The price rise of one good leads to a fall in demand for the other good.

74
Q

What type of cross elasticity do substitutes have?

A

Positive - Rise in price of one good causes demand to switch to a substitute good whose price hasn’t risen.

75
Q

What will XED for two random goods be?

A

Zero - As a rise in the price of one good has no measurable effect upon demand for the other.

76
Q

What is price elasticity of supply?

A

The extent to which the supply of a good changes in response to a change in price.

77
Q

What is the equation for price elasticity of supply?

A

PES = % change in quantity supplied/% change in price.

78
Q

What are the factors affecting price elasticity of supply?

A

Length of the production period, availability of accumulating factors, ease of switching between alternative methods of production.

79
Q

How does length of the production period affect PES?

A

If firms can convert raw materials into finished goods very quickly, supply is more elastic than when several months are involved in production.

80
Q

How does spare capacity affect price elasticity of supply?

A

When a firm possesses spare capacity, if labour and raw materials are readily available, production can be increased quickly in the short run.

81
Q

How does ease of accumulating stock affect PES?

A

When stocks of unsold finished goods are stored at low cost, firms can respond quickly to a sudden increase in demand.

82
Q

How does the ease of switching affect PES?

A

When firms can quickly alter the way they produce goods, supply is more elastic than when there is no choice. If firms produce a range of products, supply of any one product can be elastic.

83
Q

How does the number of firms in the market affect PES?

A

The more firms there are in the market, the greater the PES.

MicroEconomics (17 decks)

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