Equilibrium Flashcards
What is the price mechanism?
It refers to the forces of supply and demand that determine the price and quantity of goods and services in a market.
What are the two functions of the price mechanism?
Resource Allocation (Signalling & Incentives)
Rationing
What is the signalling function of the price mechanism?
Prices provide information to producers and consumers about where resources are
wanted.
What is the incentive function of the price mechanism?
When prices for a good/service rise, it incentivises producers to reallocate resources from
a less profitable market to a more profitable one in order to maximise their profits.
What is the rationing function of the price mechanism?
When resources become scarcer the price will rise further. Only those who can afford to pay for them will receive them.
What is consumer surplus?
The gain consumers receive when they can buy a product at a price lower than what they were willing and able to pay.
What is producer surplus?
The gain producers receive when they can sell a product at a price higher than what they were willing and able to earn.
What is social/community surplus?
The total welfare in a market — it is the sum of consumer surplus and producer surplus.
What is allocative efficiency?
It is when social surplus is maximized, meaning resources are perfectly allocated so no one can be made better off without making someone else worse off.
When does allocative efficiency occur?
At market equilibrium, when marginal benefit (MB) = marginal cost (MC).
