Demand and supply

Question 1

What is the price mechanism?

Answer 1

The price mechanism (In a free market) allocates resources between conflicting uses. The interactions pf demand and supply fix the price of products.

Question 2

What is market equilibrium?

Answer 2

The price mechanism refers to how supply and demand interact to set the market price and the amount of goods sold.
Market Equilibrium = Demand and Supply are equal (Where they intersect)

Question 3

What us equilibrium and what happens when it does not occur un a market?

Answer 3

Equilibrium = a state of equality and balance

Prices where demand and supply are out of balance are called points of disequilibrium

Question 4

What does excess demand and supply look like?

Answer 4

Excess demand = When producers are not supplying enough of a good because the price is too low (Lack of incentive to produce more) so there is an excess demand.

Excess supply = Where price is too high therefore producers oversupply and there is no demand to purchase the produced goods.

Question 5

Excess demand or supply does not exist in a free market economy.

Define free market?

Answer 5

A Free market economy is when the majority of resources are allocated through markets rather than through the government and planning.

Question 6

Who was Adam smith?

And what is meant by the ‘invisible hand’?

Answer 6

Adam smith is the farther of economics/capitalism

The invisible hand is an idea from his first book which proposes the tendency of free markers to re-equalate themselves by means of competition, supply and demand, and self interest.

Question 7

What happens when there is excess demand in a free market?

Answer 7

• Price is increased
• Suppliers will increase supply because they are profit maximisers
• Demand will decrease due to the rationing effect
• Excess demand is eliminated by the price mechanism, and a new market equilibrium is reached

Question 8

What happens when there is excess supply in a free market?

Answer 8

• Price is decreased
• Suppliers will decrease supply because they have less incentive (Are making less profit)
• Demand increases because people are more willing to pay for the utility
• New market equilibrium is reached

Question 9

what is the rationing effect?

Answer 9

Buyers leaving the market when prices are increased

Question 10

Explain the main functions of the price mechanism

Answer 10

• The rationing effect = to allocate and ration scarce resources to who is willing to buy them
• The signalling function = key information to both buyers and sellers in the market is price, it reflects market conditions
• Incentive = Low prices encourage purchase etc. Price encourages a change in the behaviour of a consumer or producer