Chapter Introduction
Section 1: Prices and
Decision Making
Section 2: The Price
System at Work
Section 3: Social Goals
and Market
Efficiency
Visual Summary
Have you ever wondered why
famous athletes and
entertainers make millions of
dollars each year? Imagine that
you are one of these athletes or
entertainers and will be
interviewed on a major
television program. Knowing
that the interviewer will ask you
why you make so much money,
prepare a list of 5 to 10 reasons
that explain why you are worth
your salary. Read Chapter 6 to
learn about how economic
systems allocate goods and
services.
1. Markets exist when
buyers and sellers
interact, and market
prices are set by the
interaction of demand and
supply.
2. Governments strive for a
balance between the
costs and benefits of their
economic policies to
promote economic
stability and growth.
Section Preview
In this section, you will learn that prices act as
signals that help us allocate scarce resources.
Content Vocabulary
• price
• rationing
• ration coupon
• rebate
Academic Vocabulary
• neutral
• criteria
Do you think eBay buyers and sellers
arrive at the perfect price?
A. Definitely
B. Possibly
C. Definitely not
0%
A
A. A
B. B
C.0%C
B
0%
C
Prices as Signals
• Price is a signal, giving information to
buyers and sellers.
– High prices—buyers buy less and
producers produce more.
– Low prices—buyers buy more and
producers produce less.
Advantages of Prices
Prices help the economy run
smoothly by providing a good
way to allocate resources.
Advantages of Prices (cont.)
• Prices help consumers and producers
make decisions on WHAT, HOW, and FOR
WHOM:
– In a competitive market, prices are
neutral.
– Prices in a market economy are flexible.
The Global Economy & YOU
Average Laptop Prices
Advantages of Prices (cont.)
– Prices are familiar and easy to understand.
– Prices have no cost of administration.
The Global Economy & YOU
Average Laptop Prices
Which of the following is a function
of price?
A. No administrative costs
B. Represent compromise
C. Easy to understand
D. All of the above
0%
A
A.
B.
C.
0%
D.
B
A
B
C
0%
D
C
0%
D
Allocations Without Prices
Rationing has disadvantages
that are not present in the
price system.
Allocations Without Prices (cont.)
• Without a price system, a rationing
system might be used.
• Individuals receive a ration coupon to
obtain a product.
Allocations Without Prices (cont.)
• Problems with rationing
– Difficult to allocate in fair way
– Administrative cost of rationing
– Negative incentive to produce
Does rationing have any advantages?
A. Definitely
B. Possibly
C. Definitely not
0%
A
A. A
B. B
C.0%C
B
0%
C
Prices as a System
Prices connect all markets in
an economy.
Prices as a System (cont.)
• Prices help individuals make decisions and
serve as signals in allocating resources
between markets.
– Higher oil prices have affected producer
and consumer decisions.
– Oil is inelastic; higher costs leave
individuals with less to spend.
Prices as a System (cont.)
– SUV sales dropped; manufacturers offered
a rebate.
– Manufacturers reduced production, closed
plants, laid off workers.
– Employees find jobs in new industries.
Prices as a System (cont.)
• The adjustment process was a natural and
necessary shift of resources for a market
economy.
Profiles in Economics:
Margaret (Meg) Whitman
Have you or anyone in your family
ever experienced or taken advantage
of this type of market shift?
A. Yes
B. No
C. Not sure
0%
A
A. A
B. B
C.0%C
B
0%
C
Section Preview
In this section, you will learn how economic
models help us understand prices in competitive
markets.
Content Vocabulary
• economic
model
• equilibrium
price
• surplus
• shortage
Academic Vocabulary
• voluntary
• fluctuates
Have you ever overpaid for a product
or service?
A. Yes, all the time
B. Yes, a few times
C. Never
0%
A
A. A
B. B
C.0%C
B
0%
C
The Price Adjustment Process
In a market economy, prices
seek their own equilibrium.
The Price Adjustment Process (cont.)
• Transactions in a market economy are
voluntary, so compromises between
buyers and sellers must benefit both.
• An economic model is used to analyze
behavior and predict outcomes.
The Price Adjustment Process (cont.)
• Supply and demand curves intersect to
form the equilibrium price.
– A surplus is any unsold product on
store shelves or in warehouses.
– Sellers lower prices to attract more
buyers.
Market Equilibrium
The Price Adjustment Process (cont.)
– A shortage exists when supply does not
meet demand.
– Prices and quantities will go up to meet
demand.
Surpluses and Shortages
The Price Adjustment Process (cont.)
• When the equilibrium price is found, there
is no shortage or surplus during the market
period.
• Factors may come along to disturb the
equilibrium price, then shortages and
surpluses will appear again to find a new
equilibrium level.
Surpluses and Shortages
At the equilibrium price, which
statement is true?
A. A shortage exists.
B. No factors can disturb
the price.
C. No surplus or shortage
exists.
0%
A
A. A
B. B
C.0%C
B
0%
C
Explaining and Predicting Prices
Changes in supply and
demand can result in changes
in prices.
Explaining and Predicting Prices (cont.)
• A change in price is normally caused by
– A change in supply
– A change in demand
– A change in supply and demand
Changes in Prices
Explaining and Predicting Prices (cont.)
• Predictions can be made if we know the
elasticity of each curve and the underlying
factors that cause the supply and demand
curves to change.
• A competitive market is one that “runs
itself,” finding its own equilibrium.
• Questions of WHAT, HOW, and FOR
WHOM are decided by the buyers and
sellers.
What is an advantage of competitive
markets?
A. Suppliers and buyers are
forced to compromise.
B. Rationing coupons
are used.
0%
D
0%
C
B
A
A. A
B. 0%B
0%
C. Resources are allocated
C. C
efficiently.
D. D
D. Competition in the market exists.
Section Preview
In this section, you will learn that governments
sometimes use policies that interfere with the
market in order to achieve social goals.
Content Vocabulary
• price ceiling
• target price
• minimum
wage
• nonrecourse
loan
• price floor
• deficiency
payment
Academic Vocabulary
• arbitrarily
• stabilize
Do you think the increase in Federal
Minimum Wage hurts or helps the
economy?
A. Helps
B. Hurts
C. Not sure
0%
A
A. A
B. B
C.0%C
B
0%
C
Distorting Market Outcomes
Price ceilings and price floors
prevent prices from allocating
goods and resources.
Distorting Market Outcomes (cont.)
• Sometimes the price system cannot
accurately inform buyers and sellers in the
market.
Distorting Market Outcomes (cont.)
• Price ceiling advantages
– Some individuals are happy.
– Individuals who could not afford the
market price not may be eligible.
Price Ceilings
Distorting Market Outcomes (cont.)
• Price ceiling disadvantages
– Demand becomes too high.
– Suppliers face lower profits.
– Suppliers limit service or leave market
altogether.
Price Ceilings
Distorting Market Outcomes (cont.)
• Price floor
– Minimum wage is an example.
Price Floors
Which statement do you think is
correct?
A. Price ceilings have a
negative affect on the
allocation of resources.
B. Price ceilings have
positive factors that
outweigh the negative
affect on resources
allocated.
A. A
B. B
0%
A
0%
B
Agricultural Price Supports
Government programs to help
stabilize prices for farmers
have both positive and
negative effects.
Agricultural Price Supports (cont.)
• During the Great Depression of the 1930s,
farm prices fell much further than other
prices in the economy.
• Federal government established the
Commodity Credit Corporation (CCC) to
help farmers.
Agricultural Price Supports (cont.)
• Under the CCC support programs
– A target price was established to help
stabilize farm prices.
– Loan supports like the nonrecourse
loan were available.
– Farmers received a
deficiency payment.
Deficiency Payments
Agricultural Price Supports (cont.)
• Agricultural output increased greatly over
time, as did the number of farmers.
• Government wanted farmers to stop
farming—the Conservation Reserve
Program of 1985 pays farmers not to farm.
Agricultural Price Supports (cont.)
• Efforts to make farming responsive to the
market forces of supply and demand
continue today with the Farm Security and
Rural Investment Act of 2002.
Which statement is true?
A. American agriculture is
more dependent than
ever on subsidies and
price supports.
B. Acreage is set aside in
land banks, and farmers
are paid not to farm.
C. Both A and B
0%
A
A. A
B. B
C.0%C
B
0%
C
When Markets Talk
Markets send signals when
prices change in response to
events.
When Markets Talk (cont.)
• 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.
How quickly does the stock market
react to changes in the economy?
A. Can take several
months to years
B. Can take weeks to a
few months
C. In a manner of hours
to a few days
0%
A
A. A
B. B
C.0%C
B
0%
C
Allocation of Resources Prices are signals that
help buyers and sellers make economic decisions.
Without prices, societies must find other ways to
allocate resources.
Market Equilibrium
When buyers and
sellers can freely
make production and
purchase decisions,
the price of a product
will move toward
market equilibrium. At
this point, the quantity
supplied is exactly
equal to the quantity
demanded.
Social Goals and Prices The social goals of equity
and security sometimes can be achieved only by
giving up parts of other goals. Price ceilings or price
floors can help achieve these goals, but they may
result in fewer goods and services offered overall.
Margaret (Meg)
Whitman (1956– )
• ranked by Fortune magazine
as the “Most Powerful
Woman in Business” in 2005
• turned eBay into one of the
fastest-growing companies
in U.S. history
Economic Concepts
Transparencies
Transparency 7
Markets and Prices
Transparency 8
Supply and Demand
Select a transparency to view.
price
monetary value of a product as
established by supply and demand
rationing
system of allocating goods and
services without prices
ration coupon
permit allowing holder to receive a
given amount of a rationed product
rebate
partial refund of a product’s
original price
neutral
favoring neither side in a dispute
criteria
a standard or rule on which judgment
can be based
economic model
a simplified version of a complex
behavior expressed in the form of an
equation, graph, or illustration
equilibrium price
price where quantity supplied equals
quantity demanded
surplus
situation where quantity supplied is
greater than quantity demanded at a
given price
shortage
situation where quantity supplied is
less than quantity demanded at a
given price
voluntary
done or brought about by free choice
fluctuates
changes continually and irregularly
price ceiling
highest legal price that can be
charged for a product
minimum wage
lowest wage that can be paid to most
workers
price floor
lowest legal price that can be paid for
a product
target price
price floor for agricultural products set
by the government to stabilize farm
income
nonrecourse loan
agricultural loan that carries no
penalty or further obligation if it is
not paid
deficiency payment
cash payment making up the
difference between the market price
and the target price
arbitrarily
randomly or by chance
stabilize
to make steady or unwavering
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