1.2) how markets work Flashcards
(34 cards)
what are the economic objectives of the various agents?
- producers: maximise profit; survival, reinvestment, share
- consumers: maximize utility and/or income
- government: maximizes welfare; growth, full employment
how does behavioural economics challenge traditional economic theory?
- suggests that it is not realistic to assume EA are rational and utility maximisers
- they assess the social, psychological, and emotional factors on decision-making
what is demand?
the quantity of a good/service that consumers are willing and able to buy at a given price, at a particular time
- downward sloping curve; higher the price, lower the QD = law of diminishing marginal utility
- increase in price = contraction, decrease in price = extension
any movement along the demand curve is cause by changes in price
when may the demand curve shift?
- left = decrease in amount demanded at every price, right = increase in amount demanded at every price
what factors may cause a shift in demand?
- changes in tastes and fashion // seasons
- changes to real income - the amount they can afford to purchase with their income - diff types of goods
- price of substitute, complementary (joint demand) goods
- derived demand - demand for a good used in making another
what are the different types of goods?
- normal - people demand more if their real income increases, right shift = more bought
- inferior - people demand less of if their real income rises, as they switch to more expensive goods
- luxury goods - an equal distribution of income would mean that more people could buy these
what is price elasticity of demand?
how the quantity demanded of a good responds to a change in its price
- PED = % change in QD / % change in price
what are different values of PED?
if PED:
- >1 = relatively elastic. %c in P will cause a larger %c in QD. HIGHER the value, more elastic
- perfectly elastic = infinity. any increase in price means demand will fall to 0
- 0 < x < 1 = relatively inelastic. %c in P will cause a smaller %c in QD. SMALLER the value, more inelastic
- perfectly inelastic = 0. any change in price has no effect on QD
- unitary PED = 1. %c in P = %c in QD
what is income elasticity of demand?
how much the demand for a good changes with a change in real income
- YED = %c in QD / %C in P
what are the different values of YED?
- YED > 1 = income elastic -> demand increases more than income does
- YED < 1 = income inelastic -> demand increases less than income does
- YED = 0 = perfectly inelastic -> income increase has no effect on demand
what is cross elasticity of demand? and what are the values for XED?
how the quantity demanded of a good responds to the change in price of another good
- XED = %c of QD of good A / %c of P in good B
if substitutes -> POSITIVE - a fall in the price of one substitute will reduce the demand for another. the closer the sub, the higher the XED
if complementary -> NEGATIVE - an increase in the price of a good will reduce the demand for its complements
- unrelated goods have XED = 0
what are the factors influencing PED?
- SUBSTITUTES - more subs a good has, the more price elastic it is because they can easily switch
- TYPE OF GOOD - essential? addictive? immediate services? multi-functional commodities?
- % of INCOME SPENT - anything that takes a large proportion of income is more likely to be price elastic because they are more likely to find the bests price for it e.g. a fridge
- TIME - in the LR demand becomes more elastic as it becomes easier to change to alternatives + change in habits and loyalties
how are revenue and PED linked?
total revenue is maximised when PED = 1
if demand is elastic:
- reduction in P = increased revenue. increase in P = decreased revenue
if demand is inelastic:
- reduction P = reduction in revenue, increase in P = increase in revenue
how is YED different for different types of goods?
- normal goods have a +IVE YED (0 < x <1). as incomes rise, demand increases
- luxury goods have YED > 1 - elastic
- inferior goods have -IVE YED. as incomes rise, demand falls. the inferior good is replaced with one deemed to be of higher quality
what is supply?
the quantity of a good or service that producers supply to the market at a given price, at a particular time
- supply curve shows price and QS
- increase in price = extension in supply. decrease in price = contraction in supply
movement along the supply curve is caused by changes in price
why does the supply curve slope upwards?
- the higher the price charged, the higher the quantity supplied
- this is because producers and sellers aim to maximise their profits so essentially, the higher the price, the higher the profit. gives them incentive to expand production
- BUT profit can only be made and firms will only produce more if the price increases more than the costs
when may the supply curve shift?
- left shift - decrease in the amount supplied at every price, right shift = increase in the amount supplied at every price
what factors may cause a shift in supply?
anything that affects the FoP
- increase in the cost of production decreases producers’profits. left shift
- improvements in tech, reduced CoP, right shift
- changes to the productivity of FoP, more output from a factor, right shift
- indirect taxes and subsidies, increases CoP, left shift
- change to the price of other goods (alternatives)??
- number of suppliers in the market will increase supply to the market, right shift
what is price elasticity of supply (PES)?
how the quantity supplied of a good responds to a change in its price
- PES = %c in quantity supplied / %c in price
- generally positive, the higher the price,, the greater the supply
what are the different values of PES?
if PES > 1:
- the supply of the good is relatively elastic, meaning that a larger %c in price will cause a larger %c in QS
- the higher the value, the more elastic supply is for the good
if PES = infinity: perfectly elastic supply, any fall in price will mean that QS will be reduced to 0
if 0 < PES < 1:
- the good is relatively inelastic, change in price will cause a smaller change in QS.
- smaller the value of PES, the more inelastic a good is
if PES = 0: supply is perfectly inelastic, change in price has no effect on thr QS supplied
why is supply price elastic in the short run but not in the long run?
- in the short run, a firm’s capacity is fixed (+ one fixed FOP) like capital. it takes time to increase production the SR, so it is inelastic
- however, in the LR all FOP are variable so the firm is able to increase its capacity so supply is more elastic in the LR because firms have longer to react to changes in price and demand
What are the main factors affecting PES?
TEASS
- state of the economy at the time: during period of unemployment, it is easy to attract new workers
- availability of FOP: mentioned above
- spare capacity: if they have this, a firm can quickly increase the supply of a good without an increase in costs (e.g. building new infrastructure)
- stockpiles: high stock is more elastic supply because they’re able increase supply quickly
- perishability: e.g. fresh fruits and flowers are inelastic in supply because they cannot be stored for long
What is equilibrium price and quantity and how can these be determined?
- at equilibrium, price and output are stable as supply is equal to demand. all products presented for sale are sold and the market is CLEARED
- equilibrium point can be found where the supply and demand curves meet.
- when they arent equal, the market is in disequilibrium, leading to excess supply or demand
how do the market forces in a free market act to remove excess supply?
- excess supply is when the QS > QD.
- if the price is set above the eq. price there would be an excess SUPPLY (surplus)
- this would cause the price to be forced down, supply to contract and demand to extend until the eq. price is reached
