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Chapter 6: Price

Chapter 6: Price. Objectives. Explain how prices act as signals. Describe the advantages of using prices as a way to allocate economic products Understand how prices are determined in a competitive market. Explain how economic models can be used to predict & explain price changes.

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Chapter 6: Price

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  1. Chapter 6: Price

  2. Objectives • Explain how prices act as signals. • Describe the advantages of using prices as a way to allocate economic products • Understand how prices are determined in a competitive market. • Explain how economic models can be used to predict & explain price changes. • Describe ways in which interfering with prices can distort the market.

  3. Ch 6 Key Terms • price • market equilibrium • surplus • shortage • equilibrium price • price ceiling • price floor

  4. What is price? • The monetary value of a product as established by supply & demand • High prices signal producers to produce more & buyers to buy less • Low prices signal producers to produce less & buyers to buy more

  5. Prices perform the allocating of goods & services function well because: • They are neutral – do not favor buyer or seller • They are flexible – can accommodate change • They have no cost of administration – no outside interference, govt needed • They are familiar & easily understood – quick decision-making

  6. The Price System at Work • To show the price adjustment process between buyers & sellers, supply & demand are graphed together • The interaction of buyers & sellers results in a price agreeable to all

  7. In a competitive market, adjustment process moves toward market equilibrium – a situation in which prices are relatively stable; quantity supplied is equal to quantity demanded

  8. A surplus occurs when quantity supplied is greater than quantity demanded at a given price • Price tends to go down as a result of surplus • A shortage occurs when quantity demanded is greater than quantity supplied at a given price • Price & quantity supplied typically rise as a result of a shortage

  9. The equilibrium price is the price that “clears the market” by leaving neither a surplus nor a shortage at the end of the trading period • The market tends to seek its own equilibrium

  10. Distorting the Market • Govt may set prices at socially desirable levels to achieve social goals • Prices not allowed to adjust to their equilibrium levels • Price ceiling: a maximum legal price that can be charged for a product (Ex. rent controls in NYC) • Price floor: lowest legal price that can be paid for a good or service (Ex. minimum wage)

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