Price Determination in a Competitive Market- Supply, Demand and Equilibrium Price

Question 1

What is demand?

Answer 1

Demand is the quantity of a good or service that consumers are willing and able to buy at a given price in given time period

Question 2

What is effective demand?

Answer 2

Demand from consumers that is backed up with an ability to pay.

Question 3

What is latent demand?

Answer 3

Potential (latent) demand is when there is a willingness to buy among people for a good or service but they lack the purchasing power in order to be able to afford the product.

Question 4

What is the law of demand?

Answer 4

It states that there is an inverse relationship between the price of a good and the quantity demanded. As prices fall, demand increases and vice versa.

Question 5

Why is the demand curve downwards sloping?

Answer 5

Because more quantity is demanded as price falls. The consumer gets better value for money so a person’s willingness and ability to buy the product increases. Also, the additional benefit (utility) gained from each extra (marginal) unit consumed falls.

Question 6

What is the substitution effect?

Answer 6

As price falls, a person switches away from rival products towards the product whose price has fallen.

Question 7

What is the income effect?

Answer 7

As price falls, a person’s willingness and ability to buy the product increases.

Question 8

What is the law of diminishing marginal utility?

Answer 8

As an individual consumes more units, the additional benefit (utility) gained from each extra (marginal) unit consumed falls.

Question 9

What causes a movement along a single demand curve?

Answer 9

A change in price of that good.
either a contraction (fall in quantity demanded) or an extension (rise in quantity demanded)

Question 10

How do changes in income affect demand for normal goods?

Answer 10

A rise in income causes a rise in demand (a shift right) and vice versa

Question 11

How do changes in income affect demand for inferior goods?

Answer 11

A rise in income causes a fall in demand (a shift left) e.g. own brands.

Question 12

How do changes in prices of competing goods affect demand for a product?

Answer 12

If the price of a competing good increases then the demand for substitute products increases and vice versa.

Question 13

How do changes in the price of complementary goods affect demand for a product?

Answer 13

An increase in price for one good would lead to a decrease in demand which would lead to a decrease in the demand for the complementary product and vice versa. e.g. razors and razor blades.

Question 14

How do changes in population affect demand for a product?

Answer 14

A rise in the no. of people in a given area or country will increase the demand for a whole host of goods and services and vice versa.

Question 15

How do changes in tastes/ preferences affect demand for a product?

Answer 15

Greater preferences= greater demand and vice versa. Changing preferences affect demand regardless of price.

Question 16

How do changes in legislation affect demand for a product?

Answer 16

Making something a legal requirement is likely to increase demand at all price levels. and vice versa

Question 17

How do changes in the levels of advertising affect demand?

Answer 17

An increasing in advertising is assumed to increase demand for a product in question and vice versa.

Question 18

How to expectations of future price changes affect demand for a product?

Answer 18

An expectation of a future price rise is likely to make consumers buy the product earlier so demand increases.
An expectation of a future price fall is likely to make consumers wait to buy the product so demand decreases.

Question 19

How might rising incomes in an economy affect house prices and why?

Answer 19

Rising incomes would lead to an increase in demand for houses because more people can afford to pay the monthly payments. This would lead to an increase in house prices.

Question 20

What is market demand?

Answer 20

The quantity of a good or service that all consumers in a market are willing and able to buy.

Question 21

What is the definition of supply?

Answer 21

The quantity of a product that a producer is willing and able to supply onto the mark at a given price in a given time period.

Question 22

Why is a supply curve upward sloping?

Answer 22

• Profit Motive: when the market price rises following an increase in demand, it becomes more profitable for businesses to increase their output.
  -Production and costs: when output expands, production costs rise, so a higher price is needed to cover the cost.

Question 23

What causes a movement along the individual supply curve?

Answer 23

A change in price.
Either:
-a contraction (fall in quantity supplied)
-an expansion (rise in quantity supplied.

Question 24

How do lower costs of production affect supply of a product?

Answer 24

Lower costs of production e.g. a fall in raw materials, means that businesses can supply more at each price, increasing supply (shift right)

Question 25

How do higher costs of production affect supply of a product?

Answer 25

Higher costs of production e.g. a rise in the cost in raw materials or higher wages, then businesses cannot supply as much at each price, decreasing supply (shift left)

Question 26

How do changes in technology affect the supply of a product?

Answer 26

Technology developments in production improve efficiency and reduce average costs of production, increasing supply (shift right)

Question 27

How do changes in indirect taxes affect supply of a product?

Answer 27

Increases in indirect taxes e.g. VAT, causes an increase in production costs, decreasing supply (shift left)

Question 28

How do changes in subsidies and regulations affect supply of a product?

Answer 28

Subsidies lead to a fall in supply costs, increasing supply (shift right)
Regulations increase production costs, decreasing supply (shift left)

Question 29

How does good weather affect supply of agricultural products?

Answer 29

Good weather will produce a bumper harvest, increasing supply (shift right)

Question 30

How does bad weather affect supply of agricultural products?

Answer 30

Bad weather e.g. drought, will lead to poorer harvest and lower yields, decreasing supply (shift left)

Question 31

How do changes in the number of producers in a market affect supply of a product?

Answer 31

When new businesses enter a market supply increases (shift right) whilst firms leaving a market will cause a decrease in supply (shift left)

Question 32

How do expectations of future prices rises affect supply of a product?

Answer 32

An expectation of future price rise in a product makes supplier hold back on supply so they can make more profit when the price rises, decreasing supply (shift left)

Question 33

How do expectations of future price falls affect supply of a product?

Answer 33

An expectation of future price fall is likely to make suppliers increase supply now, taking advantage of the higher prices while they last, increasing supply (shift right)

Question 34

What is equilibrium price?

Answer 34

The price where planned demand matches planned supply and there is no tendency for the market price to change (market clearing price)

Question 35

What is excess demand?

Answer 35

Where quantity demanded is greater than quantity supplied at the prevailing market price. QD - Qs = excess demand

Question 36

What is excess supply?

Answer 36

Where quantity supplied is greater than quantity demanded at the prevailing market price.
Qs - QD = excess supply

Question 37

What is consumers’ surplus?

Answer 37

The difference between the price the consumer is willing to pay and the equilibrium price they actually play (a measure of welfare)

Question 38

What is producers’ surplus?

Answer 38

The difference between the price the producer is willing to receive- a measure of welfare.

Question 39

How do substitutes result in Competitive Demand?

Answer 39

An increase in the price of one good can lead to an increase in demand for its substitute and vice versa.

Question 40

How to complements result in joint demand?

Answer 40

A rise in price of one product in joint demand leads to a decrease of demand for the complementary good and vice versa.

Question 41

What are normal goods?

Answer 41

A good for which demand increases as income rises.

Question 42

What is the personal disposable income equation?

Answer 42

Personal disposable income= Income (from employment and savings) + benefits (child allowance) - tax (income tax/national insurance)

Question 43

What are inferior goods?

Answer 43

A good for which demand decreases as income rises.

Question 44

What is composite demand?

Answer 44

When a good is demanded for 2 or more uses.

Question 45

How do composite goods affect demand?

Answer 45

An increase in demand for one use of the good reduces the supply for the good reduces the supply of the good for an alternative use.

Question 46

When does derived demand occur?

Answer 46

When a good is necessary for the production of other goods. e.g. cars and gearboxes. The demand for factors of production is derived from demand for consumer goods.

Question 47

What is joint supply?

Answer 47

When two or more goods are produced together. e.g. beef and leather.