Prices and Decision-Making

Role of Prices

• Market economy- prices perform allocation function (FOR WHOM?)

• Advantages of prices– Neutral– Flexible– Free– Familiar

Alternatives to Pricing

• Rationing: Government decides “fair share” and allocates goods and services

• Examples?• Advantages?• Disadvantages?

Economic Models and Equilibrium

• Together, demand and supply make a complete picture of the market.

• The point at which the supply and demand curves cross is known as the EQUILIBRIUM PRICE, where quantity supplied and demanded are equal.

Figure 6.1aFigure 6.1aFigure 6.1bFigure 6.1b

Surpluses occur when supply exceeds demand(The price is too high).

Figure 6.2aFigure 6.2a

Shortages occur when demand exceeds supply (The price is too low).

Figure 6.2bFigure 6.2b

The equilibrium price is the price at which supply meets demand.

Figure 6.2dFigure 6.2d

Explaining and Predicting Prices

• A change in price is normally the result of a change in supply, a change in demand, or both.

Figure 6.3aFigure 6.3a

Explaining and Predicting Prices

• Changes in supply and demand can have a dramatic effect on prices for products.

Figure 6.4Figure 6.4