Chapter 12: Market Mechanism

Question 1

What is the price mechanism?

Answer 1

How market forces respond to changes in supply and demand

Question 2

Rationing function

Answer 2

When prices allocate (ration/limit) scarce resources.When changes in price lead to more or less being produced, so increasing or limited the quantity demanded by buyers.

Question 3

Signalling function

Answer 3

When changes in price give information to buyers and sellers that influence their decision to buy and sell

Question 4

Incentive function

Answer 4

When changes in price encourage buyers and sellers to CHANGE THE QUANTITY they buy and sell

Question 5

Explain the signaling function

Answer 5

The price mechanism can provide a signal to firms and consumers. The price of a good is a key piece of information to economic agents because they reflect market conditions and act as signals which show whether or not they should change the quantity bought and sold.

Question 6

Why do low prices encourage consumers to buy more units?

Answer 6

Because the utility (amount of satisfaction gained) per dollar increases relative to other goods

Question 7

Why would a prolonged fall in prices drive some firms out of the market?

Answer 7

Because it is no longer profitable for them to supply. Low prices discourage production.