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Understanding Prices and Market Dynamics: Benefits and Limitations of the Price System

This chapter explores the fundamental aspects of the price system in economics, detailing its benefits such as information transmission, incentives for producers, consumer choice, efficiency, and flexibility. It also discusses the limitations of the price system, including market failures like externalities and public goods, and the repercussions of government interventions like price ceilings and floors. Key questions about market equilibrium, surpluses, and shortages are examined, alongside the concept of rationing during times of scarcity, highlighting potential consequences like unfairness and black markets.

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Understanding Prices and Market Dynamics: Benefits and Limitations of the Price System

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  1. Economics Supplemental Notes for Chapter 5 PRICES

  2. Benefits of the Price System • Information • Incentives • Choice • Efficiency • Flexibility

  3. Limitations of the Price System • Also called MARKET FAILURES • Fails to account for some costs and cannot distribute them appropriately.

  4. Market Failures • Externalities • Negative • Positive • Public Goods • Instability

  5. Questions • What is market equilibrium? • How does the price system handle product surpluses? Shortages? • How do shifts in demand and supply affect market equilibrium?

  6. Setting Prices • Price Ceilings • Price Floors

  7. Consequences of Setting Prices • Ceilings / Floors can prevent the market from reaching equilibrium. • EXAMPLE: Rental property in NYC.

  8. Rationing • Sometimes supply of a good is so low that a government rations to keep some supply. • RATIONING: The govt. or other institution decides how to distribute a product.

  9. Rationing doesn’t happen often in free enterprise • WWII – Rationing tires, gas, meat, butter, sugar, coffee. • TODAY: College sporting events. Alums and current students get priority in seating.

  10. Consequences of Rationing • Unfair • Expensive • Creates black markets (underground economies)

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