Market mechanism, Market failure and Government intervention Flashcards
Price
the value in which a good or service is exchanged
Price mechanism
Changes in demand or supply of a good or service lead to changes in its quantity brought/sold
Name three functions of price mechanism
incentive,signal, ration scarce resources
Incentive
Higher prices encourage all firms to produce more goods
Signaling
changes in price show changes in demand or supply for producers and consumers
Rationing scarce resources
This means when there High demand and supply is limited prices will remain high but if theres low demand and high supply prices will be low
three advantages of price mechanism
Resources will be allocated efficiently to satisfy needs and wants
Consumers decide what is and isnt produced
Price mechanism can operate without the cost of employing people to regulate it
three Disadvantages of price mechanism
Inequality in income and wealth
Under provision of merit goods and over provision of demerit goods
Public goods wont be produced
What is market failure
A misallocation of resources
Types of Market failure
Complete and partial Market failure
Complete market failure
This is when there is a missing market and no market exists
Partial market failure
When the market functions but price or quantity is supplied wrong
Externalities
the effects that producing and consuming has on third parties who werent involved in the producing and consuming of a good or service
Positive externalities and example
external benefit for example improvement in technology
Negative externality and example
External cost for example littering
Private cost
The cost of doing something to ethier a consumer or firm
External cost and example
Caused by externalities for example littering cause council to pay to clean
Social cost
is the total cost bourne to society
Private benefit
the benefit gained by a producer or consumer
External benefit
caused by externalities for example increased equipment means lesser need for electricity
Social benefit
the full benefit recieved for a good or service
MPC
Marginal private cost and its the cost of producing the last unit of a good
MPB
Marginal private benefit the benefit of consuming the last unit of a good
Postive externality diagram
when MPB and MSB are parrallel
Negative externality diagram
When mpc and msc are parallel
Equilibruim
when supply and demand are equal
Socially optimum point
When MSC equals MSB
Socailly optimum level
When output and price gives society maximum benefit of any positive externalities and covers negative externalities
Overproduction for negative externalities
When output is higher than socially optimum level leading to welfare loss
Underconsumption for positive externalities
ignoring potential welfare gain output below socially optimum level
Overconsumption for negative externalities
Ignore negative consumption externalities, consumption higher than socially optimum level causing welfare loss