Chapter 6- Role of Markets in Allocating Resources Flashcards
Economic System
Economic System: The institutions, organizations and mechanisms that influence economic behavior and determine how resources are allocated
Planned Economic System
Planned Economic System: economic system where government makes that crucial decisions, land and capital are state-owned and resources are allocated by directives
Directives
Directives: State instructions given to state-owned enterprises
Mixed Economic System
Mixed Economic System: economy in which both the public and private sectors play an important role
Market Economic System
Market Economic System: economic system where consumers determine what is produced, resources are allocated by the price mechanism and land and capital are privately owned
Price Mechanism
Price Mechanism: the way decisions made by households and firms interact to decide the allocation of resources
Capital-intensive
Capital-intensive: the use of high proportion of capital relative to labor
Labor-intensive
Labor-intensive: the use of a high proportion of labor relative to capital
Demand
Demand: the willingness and ability to buy a product
Supply
Supply: the willingness and ability to sell a product
Market Equilibrium
Market Equilibrium: situation where demand and supply are equal at the current price
Market Disequilibrium
Market Disequilibrium: situation where demand and supply are not equal at the current price
3 Key Allocation Decisions
what to produce?
how to produce it?
who is to receive the products produced?
the questions are brought up due to the basic economic problem which makes it important to allocate the economy’s resources efficiently. Due to the fact that there will not be as many products as required to satisfy everyones needs, the producers need to make a decision on who receives these products (the people who need them or those who are willing to pay high prices). The answer to this depends on the type of economic system a country has (mixed, planned, market).
Different Economic Systems
There are 3: Planned Economic System, Market Economic System, Mixed Economic System
Planned economic system is an economy in which the government makes all the 3 key allocation decisions(what to produce, how to produce, who receives). The state owns most land, and capital and employs workers. The state also gives directives to SOEs (State owned enterprises) on what to produce and how to produce it. it also decides who gets the products by deciding the wages paid to the workers and controlling prices. the state will often make basic necessities such as education or housing free of cost or at a low price.
Role of Price Mechanism
Price mechanism provides an incentive for producers to respond to changes in the market conditions. If there his higher demand for a product, consumers will likely be willing to pay more for it. The higher price would encourage firms to produce in larger quantities as they can make more profit.
Due to changes in market forces the use of resources changes constantly, this moves the market equilibrium to disequilibrium and then back to equilibrium again. The price mechanism aids in rationing out products when supply falls short.
For eg: if most of the tomatos of a harvest are ruined, the demand is likely to far exceed the supply. In this case the price mechanism will increase the price of the tomatos until the market clears.
