Price Mechanism
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Economics Revision Focus: 2004
AS Economics
Functions of the Price Mechanism
tutor2u™(www.tutor2u.net) is the leading free online resource for Economics, Business Studies, ICT and Politics. Don’t forget to visit our discussion boards too as part of your Economics revision.
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Functions of the Price Mechanism
Revision Focus on the Functions of the Price Mechanism
AS Syllabus Requirements: How Markets and Prices Allocate Resources Candidates should understand the rationing, incentive and signalling functions of prices in allocating resources and co-ordinating the decisions of buyers and sellers in a market economy. The invisible hand – the workings of the price mechanism The price mechanism is simply the means by which the millions of decisions taken each day by consumers and businesses interact to determine the allocation of scarce resources between competing uses. This is the essence of economics! The price mechanism plays three important functions in any market-based economy The signalling function Prices have a signalling function. Prices adjust to demonstrate where resources are required, and where they are not. Prices rise and fall to reflect scarcities and surpluses. If market prices are rising because of stronger demand from consumers, this is a signal to suppliers to expand output to meet the higher demand. Consider the left hand diagram below. The demand for computer games increases. Producers stand to earn higher revenues and profits from selling more games at a higher average price. So an outward shift of demand leads to an expansion along the market supply curve (ceteris paribus)
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www.XtremePapers.net
tutor2u™
Supporting Teachers: Inspiring Students
Page 3 of 5
Functions of the Price Mechanism
Higher demand signals to producers to step up production – if
Supporting Teachers: Inspiring Students
Economics Revision Focus: 2004
AS Economics
Functions of the Price Mechanism
tutor2u™(www.tutor2u.net) is the leading free online resource for Economics, Business Studies, ICT and Politics. Don’t forget to visit our discussion boards too as part of your Economics revision.
www.XtremePapers.net
tutor2u™
Supporting Teachers: Inspiring Students
Page 2 of 5
Functions of the Price Mechanism
Revision Focus on the Functions of the Price Mechanism
AS Syllabus Requirements: How Markets and Prices Allocate Resources Candidates should understand the rationing, incentive and signalling functions of prices in allocating resources and co-ordinating the decisions of buyers and sellers in a market economy. The invisible hand – the workings of the price mechanism The price mechanism is simply the means by which the millions of decisions taken each day by consumers and businesses interact to determine the allocation of scarce resources between competing uses. This is the essence of economics! The price mechanism plays three important functions in any market-based economy The signalling function Prices have a signalling function. Prices adjust to demonstrate where resources are required, and where they are not. Prices rise and fall to reflect scarcities and surpluses. If market prices are rising because of stronger demand from consumers, this is a signal to suppliers to expand output to meet the higher demand. Consider the left hand diagram below. The demand for computer games increases. Producers stand to earn higher revenues and profits from selling more games at a higher average price. So an outward shift of demand leads to an expansion along the market supply curve (ceteris paribus)
www.tutor2u.net : The Home of Economics on the Internet
www.XtremePapers.net
tutor2u™
Supporting Teachers: Inspiring Students
Page 3 of 5
Functions of the Price Mechanism
Higher demand signals to producers to step up production – if