Prices
Chapter 6
Lesson 1: How Prices Work
• Essential Question:
• How do prices help determine What,
How, and For Whom to produce?
Price
• The monetary value of a product as
established by supply and demand
• Signals:
• High prices: producers to produce more
and for buyers to buy less
• Low prices: producers to produce less and
for buyers to buy more
Advantages of Prices
• Prices
• help decide: WHAT, HOW, AND FOR
WHOM
• Prices are neutral in a competitive market
economy
• Result of competition b/w buyers and
sellers:
• More competitive = more efficient price
adjustment process
Advantages of Prices (cont)
• Prices are flexible in a market economy
• Think about computers THEN and NOW
• Allows for the “SHOCK” of unforeseen events and
changes in the market
• Prices have no administration cost
• Competitive markets find their own prices w/out
interference
• Prices change from one level to another gradually
Advantages of Prices (cont)
• Prices are familiar and easily understood
• Mommy “I want a candy bar!”
• You “Can I purchase that TV?”
• No ambiguity: if it is $1 then you know you
will pay $1 (plus tax in some states)
• Make quick decisions
• Minimum effort
Allocations Without Prices
• Help us make economic decisions that
“allocate” scarce resources and the product
made from them
• What if the PRICE SYSTEM did not exist?
• Like command economies
• Use another system right?
Allocations Without Prices
(cont)
• Rationing:
• System where the government decides everyone’s
•
•
•
•
“FAIR” share
RATION COUPON:
• Obtain a certain allotted amount
• Widely used during wartime
Questions of Fairness?
High Administrative cost
Diminishes incentives
Price as a System
•Economists favor the price system
•Serve as signals that help allocate resources
between markets
•Oil ($5 to $40 a barrel in 1970’s)
•Oil is inelastic
•Higher energy cost = less money to spend
elsewhere
•1ST affected full size automobiles
•Gave rebates: a partial refund of the original
price of the product
•Closed plants, laid off workers, started to change
to small production
Price as a System
• Higher prices on oil = shift in productive
resources
• Prices help buyers and sellers allocate resources
b/w markets
• Economist think of the price as a system
• Part of an informational network
• Links all markets in the economy
Copy and answer the following
questions for lesson 1
1.
2.
3.
4.
5.
What are the four advantages of prices?
What is rationing?
What are the four problems with rationing?
How do prices help us make decisions?
How do prices connect markets in an
economy?
Lesson 2: The Effects of
Prices?
• Essential Question:
• What factors affect prices?
The Price Adjustment
Process
• Appealing feature of a Competitive
Market Economy
• EVERYONE who participates has a
hand determining PRICES
• Makes prices neutral and impartial
Cont.
• Buyers and sellers have exactly the
OPPOSITE hopes and desire
• Buyers = find good buys at low price
• Sellers = high prices and large profits
• Neither can get what they WANT so
adjustments must be made
The Price Adjustment
Process
• Compromise needs to benefit BOTH parties
• DEMAND and SUPPLY make a complete picture
of the market
• Price adjustments help a competitive market reach
market equilibrium, with fairly equal supply and
demand
Surplus
• Shows up as UNSOLD products on suppliers
shelves
•
•
•
•
Takes up space
Know that the price is TOO high
NEED to LOWER the price to attract buyers
PRICES tend to go DOWN when there is a
surplus
Shortage
• Suppliers have no more product to SELL
• Wished they would have charged a higher price
• Result = BOTH price and quantity supplied will
go UP
• We do not know how much PRICE will go up
Figure 6.2c
Figure 6.1a
EQUILIBRUIM PRICE
= occurs when supply
MEETS demand
Figure 6.2d
Equilibrium Price
• “Clears the market” neither a surplus nor a
shortage at the end of the trading period
• Economic Model of the market
• CANNOT know how long it will take to reach
• Price is set TOO HIGH the surplus will tend to
force price down
• Price is set TOO LOW the shortage will ten to
force price up
Explaining and Predicting
Prices
• A change in price is the result of a
• Change in Supply
• Change in Demand
• Or BOTH
• Elasticity of Demand is also important
when predicting prices
Explaining and Predicting Prices:
Importance of Elasticity
• Demand curve is MORE elastic
• When a given change in supply occurs
with an INELASTIC demand curve
• PRICES change dramatically
Continued
• When a change in supply occurs with an
ELASTIC demand curve
• Price change is smaller
• BOTH supply and demand are
INELASTIC = wider change in price
• BOTH supply and demand are ELASTIC
= less change in price
Explaining and Predicting
Prices: Change in Demand
• Changes in income, taxes, prices of
related goods, expectations, and number
of consumers
• Example: GOLD
The Competitive Price
Theory
• The theory of competitive pricing
represents a set of ideal conditions and
outcomes; it serves as a model to measure
market performance
• Competitive market allocates resources
efficiently
The Competitive Price Theory
• To be competitive:
• Sellers are forced to lower prices
• Find ways to keep cost down
• Competition among buyers keeps
prices from falling TOO far
Complete Lesson 2 questions
on handout
Lesson 3: Social Goals. Prices,
and Market Efficiency
Essential Question:
What factors affect prices?
Controlling Prices
• Government may set prices at
socially desirable levels to achieve
social goals
• Prices not allowed to adjust to their
equilibrium levels
Controlling Prices
• 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)
When Markets Talk
• Markets send signals when prices change in
response to events..
• Markets bring buyers and sellers together
• Markets are said to “talk” when prices in them
move up or down significantly in reaction to
events that take place elsewhere in the economy.
• Stock markets, for example, react quickly to
interest rate changes made by the Federal
Reserve.
Complete Supply and Demand
curve activity and complete
questions – turn in for a grade.