Micro - Price Mechanism & Determination `✔️ Flashcards
Equilibrium price and quantity and how they are determined
They are determined where the demand and supply line cross
The use of supply and demand diagrams to depict excess supply and excess demand
If the price of the good is above the market equilibrium then there will be an excess in supply. On the other hand, if the price of the good is below the market equilibrium price then there will be an excess of demand.
The operation of market forces to eliminate excess demand and excess supply
If there is excess supply, market forces will result in a contraction in supply and an extension in demand, causing a fall in price to its market clearing level. This shortage in demand will result in a decrease in the price of the good as firms will realise that they have to lower their prices if they are to sell all their goods.
If there is excess demand, market forces will result in an extension in supply and a contraction in demand, causing a rise in price to its market clearing level. This is because firms will spot this excess demand and recognise that they will have to increase prices in order to ration demand.
Explain the use of demand diagrams to show how shifts in demand and supply curves cause the equilibrium price and quantity to change in real-world situations
A decrease in the demand for a good/service will result in a decrease in quantity (Q to Q1) as well as a reduction in price (P to P1). If the firm was to keep the good/service at the same price then there would be an excess of supply. Therefore by reducing the price it encourages firms to produce less quantity of the good/service thus allowing the market to reach equilibrium.
An increase in the demand for a good/service will result in an increase in the price (P to P2) as well as an increase in quantity (Q to Q2). This is due to the fact that if the price of the good stayed the same then there would be an excess of demand. Therefore by increasing the price it helps to ration the demand for the good/service as well as incentivising suppliers to increase the quantity that they supply.
price elasticity of demand (PED)
Example:
If price increases by 10% and demand for CDs fell by 20%
Then PED = -20/10 = -2.0
If the price of petrol increased from 130p to 140p and demand fell from 10,000 units to 9,900
% change in Q.D = (-100/10,000) *100 = - 1%
% change in price 10/130 ) * 100= 7.7%
Therefore PED = - 1/7.7 = -0.13
elastic demand/supply
Elastic goods:
They are luxury goods
They are expensive and a big % of income
Goods with many substitutes and a very competitive market.
Price sensitive.
Bought frequently
Inelastic demand/supply
Inelastic goods:
They have few or no close substitutes
They are necessities
They are addictive
They cost a small % of income or are bought infrequently.
price elasticity of supply (PES)
Measures the responsiveness of quantity supplied to a change in price.
Shows the ability of producers to change their output following a change in marginal cost of supply
The PED or PES on the curve in which there is a movement along
Price Elastic or Inelastic of Supply
Price Elastic or Inelastic of Supply
