3 Price Determination in a Competitive Market Flashcards
(320 cards)
1
Q
3 features of highly competitive markets?
A
- Market equilibrium price
- Few or no barriers to entry
- Transparency
2
Q
What is effective demand?
A
Demand backed up by the ability to pay
3
Q
Is it rational to buy when price = marginal utility?
A
Yes
4
Q
What is the difference between marginal product and marginal utility?
A
Marginal utility is the addition to utility
Marginal product is the addition to output or quantity
5
Q
What should be noted when abbreviate Qd to quantity?
A
It is quantity demanded over a period of time - Qd is only set for a given period of consumption
6
Q
What does a demand curve show?
A
How much an individual demands at a set of prices
7
Q
True or False - a rise in incomes will lead to a shift in demand?
A
Yes
8
Q
What is a normal good?
A
A good for which demand is proportional to income
9
Q
What is the individual vs market demand?
A
Market demand is demand in the entire market, individual demand is demand for one individual
10
Q
Market demand formula
A
Sum of all individual demands
11
Q
What are the differences between a movement and a shift of demand?
A
Shift of the demand curve due to conditions of demand changing
Movement along the demand curve due to a change in price
12
Q
What is the only thing that can cause a movement on something’s demand curve?
A
A change in price
13
Q
What do we assume whenever we draw a demand curve?
A
Ceteribus Paribus - all else is kept equal
14
Q
When we say ceteribus paribus, when drawing a demand curve, we want to keep ___ constant?
A
Conditions of demand
15
Q
What is a condition of demand?
A
Something other than a good’s price that fixes the position of the demand curve
16
Q
5 conditions of demand?
A
- Price of substitute goods
- Price of complementary goods
- Personal disposable income
- Population size
- Preferences
17
Q
What is an inferior good?
A
A good for which demand decreases with income
18
Q
What is a substitute good?
A
Goods in competitive demand e.g. tea and coffee
19
Q
What is a complement good?
A
Goods in joint demand e.g. tea and sugar
20
Q
True or False - a rise in the price of a substitute good causes an increase in demand.
A
True
21
Q
True or False - a rise in price would lead to a decrease in demand.
A
False, it would be a contraction
22
Q
3 examples where the demand curve would have a positive gradient?
A
- Speculative demand
- Goods where price is indicative of quality
- Veblen goods
23
Q
YED formula
A
%DeltaQd/%DeltaY
24
Q
XED formula
A
%DeltaQdA/%DeltaP
25
Example of a Veblen good? Did it work?
2007 Stella Artois 'reassuringly expensive' advert
## Footnote
No, they now sell at lower prices
26
Veblen goods are for ___ consumption?
Conspicuous
27
What is speculative demand?
When demand increases because of a price rise as investors speculate price will rise yet higher, allowing them to resell at great profit
28
How can information failure influence demand curves?
Some people use higher prices as a heuristic for quality
29
What is an elasticity?
How proportionate a change in X is to a change in Y for two related variables
30
3 demand elasticities?
1. PED
2. XED
3. YED
31
PED formula
%DeltaQd/%DeltaP
32
Which two linear demand curves have constant PED?
Horizontal and vertical
33
What effect does time have on PED?
PED is more elastic in the LONG RUN as consumers have time to react when compared with the SHORT RUN
34
What is the ideal PED for firms and why?
Unitary
## Footnote
Maximum consumer expenditure
35
When a demand curve is horizontal?
PED is perfectly elastic - any change in price and Qd falls to 0
36
When a demand curve is vertical?
PED is perfectly inelastic - any change in Pd and Qd is unchanged
37
As we move down a demand curve, what happens to PED?
It falls
38
What is the curve for unitary elastic demand?
Inverse proportion graph
39
5 determinants of PED?
1. Time
2. Income (percentage of income)
3. Necessity or luxury
4. Definition
5. Substitutability
40
What is the most important determinant of PED and why?
Substitutability
## Footnote
Consumers can choose goods whose price hasn't risen
41
What effect does percentage of income have on PED and why?
Larger percentage of income, more elastic
## Footnote
If you buy something infrequently the higher costs will not be as punitive
42
If something is a necessity, PED is...
Inelastic
43
What is the width of the market definition and how does it affect PED?
How large a change in Qd for the change in P
## Footnote
e.g. What is effect of lowering the price of a car on demand for that particular car vs what is the effect of lowering the price of a car on demand for all cars.
44
What is the name for the curve in the unitary elasticity diagram?
Rectangular hyperbola
45
Is time always proportional to PED?
No, sometimes people can have a kneejerk reaction and then find ways to re-allocate income to continue consumption at previous levels
46
What is the short run?
The time for which at least one factor of production is fixed
47
What is the long run?
The time for which the factors of production can be varied
48
Relationship between elastic, inelastic and unitary PED on total consumer expenditure when a price falls.
Elastic - expenditure increases
Unitary - remains the same
Inelastic - expenditure decreases
49
XED of a substitute?
Positive
50
Are most XEDs inelastic or elastic?
Inelastic
51
When incomes increase, the demand curve for an inferior good...
Shifts leftwards
52
YED for an inferior good?
Negative
53
YED for a normal necessity?
0
54
YED for a normal luxury?
>1
55
What is a superior good?
Another name for a luxury
56
XED of a complementary good?
Negative
57
What is the XED of unrelated goods?
0
58
What is market supply?
The quantity of a good or service that all the firms in a market plan to sell at given prices in a given period of time
59
Market supply and individual supply relationship?
Market supply is the sum of the individual supplies
60
When might unrelated items have XED relationships?
When limited household budgeting means that higher prices necessitate a reduction in demand for other goods
61
What does elasticity measure?
How responsive one variable is to a change in another
62
What is shown on a supply curve?
MARKET supply
63
Why is there a law of supply?
Marginal costs rise - these need to be covered
64
What is profit?
The difference between total revenue and costs of production
65
What are diseconomies of scale and how does it relate to market supply curves?
The average marginal cost of producing units rises as the number of units increases. Firms are incentivised to produce more units when the increased price will guarantee increased profits to cover these costs
66
What is the abbreviation whenever you see quantity on the x-axis of a supply curve?
Over a period of time
## Footnote
Remember, these figures only work for a given period of time
67
What can cause a shift in the supply curve?
Conditions of supply
68
Which Latin phrase describes when all control variables are kept constant?
Ceteris Paribus
69
When will the supply curve shift?
When ceteris is not paribus
70
4 main conditions of supply?
1. Costs of production
2. Technical progress
3. Taxes
4. Subsidies
71
What category do energy costs, raw material costs, costs of borrowing and wage costs fall under regarding conditions of supply?
Costs of production
72
When wage costs rise, what happens to the supply curve?
Shift left
73
Why does technical progress tend to shift supply curves rightwards?
Decreased cost of production
74
What effect does firms entering the market have on the supply curve?
Shift it rightwards
75
Why do taxes cause a leftward shift in the supply curve?
They are an extra cost of production
76
Why are producer taxes often indirect?
Firms shift the incidence to the consumer
77
What does the new supply curve look like when an ad valorem tax is applied and why?
It is steeper than the original supply curve
## Footnote
The proportional increase has been applied equally at all points along the curve
78
What does the new supply curve look like with a unit tax?
A parallel line
79
What transformation occurs to the supply curve when a unit tax is applied?
Shift upwards by the value of the unit tax
80
What is a specific subsidy? What effect does it have on the supply curve?
A subsidy of fixed value
## Footnote
Shifts the supply curve right by a fixed distance
81
Price elastic supply curve?
INTERCEPTS PRICE AXIS
82
How does PES change along the price elastic supply curve?
Decreases but never falls below unity
83
How does PES change along the price inelastic supply curve?
Increases towards unity
84
Price inelastic supply curve?
INTERCEPTS QUANTITY AXIS
85
Unit elasticity of supply curves have what property?
Proportional straight line through the origin
86
Perfectly inelastic supply curve?
BBBBB
87
Perfectly elastic supply curve?
BBBBB
88
Why is PES usually positive whereas PED is usually negative?
Laws of demand and supply
## Footnote
We want to sell more at higher prices but can't afford to buy more at higher prices
89
6 determinants of PES?
1. Production length
2. Spare capacity
3. Stock
4. Substitutability of factors/Factor mobility
5. Number of firms in the market and the barriers to entry
6. Time
90
Why is length of the production process a determinant of PES? An example?
Longer to get something onto the market means PES is more inelastic
## Footnote
Agricultural produce takes longer to get onto the market
91
Why is capacity a determinant of PES?
Spare capacity allows firms to rapidly increase production by increasing the size of the firm. However, if firms have little spare capacity for expansion then this may make increased supply harder
92
Why is stock a determinant of PES?
The ability to keep stock in storage makes it easier for firms to respond to sudden price increases by simply releasing existing goods onto the market
93
Why is factor mobility a determinant of PES?
It links to spare capacity and the firms ability to increase production rapidly
94
If there are more firms or barriers to entry are lower, what is the effect on PES?
It is more elastic
95
PES has what relationship to time?
Becomes more elastic with time
96
A market period supply curve shows what?
A straight line because market-period is static time
## Footnote
The firms cannot respond so simply increase price
97
In the short-run supply curve, what happens?
It becomes a shallower gradient from the vertical line of the market-period supply curve as firms begin to take temporary measures such as hiring new labour
98
In the long-run supply curve, what happens?
New longer lasting changes such as new fixed factors of production or new firms entering the market leads to another decrease in the supply curve's gradient
99
What happens to the price of a good as we go through market-period, short-run and long-run following an increase in supply, presuming supply remains increased?
Price spikes and then gradually falls
100
What else compounds the other reasons and makes supply more elastic in the long run in competitive industries?
The entry of new firms into the market
101
For perfectly elastic demand, when price decreases, does Qd fall to zero?
No
102
For perfectly elastic supply, when price increases, does Qd fall to zero?
No
103
The equilibrium price occurs when?
D=S
104
When planned demand > planned supply, prices...
Arise
105
The states of scarcity and surplus are states of...
Market disequilibrium
106
At what price is market disequilibrium achieved?
Any price besides the equilibrium price
107
What happens to the equilibrium price when either a SHIFT or a CONTRACTION in either DEMAND or SUPPLY occurs?
It changes
108
Illustrate the effect of a bumper crop on the market equilibrium price of wheat
BBBBB
109
When the price is too low, who is on the short side of the market?
Buyers
110
Explain how a shortage can be rectified using price mechanism?
Price changes causing a demand and supply shift
111
The economic agents on the short side can always...
Fulfil their market plans
112
For a normal good, illustrate the increase in incomes on the equilibrium price
BBBBB
113
Direct taxes shift...
The demand curve
114
Indirect taxes shift...
The supply curve
115
When a direct tax is applied, illustrate the effect on the equilibrium price of an inferior good
BBBBB
116
What happens when a subsidy is applied to firms?
Shift supply curve rightwards
117
Why do auctions provide a good example of equilibrium in the market?
Consumers establish their own equilibrium price i.e. what they are willing to pay for this level of supply
118
Example of an auction?
US Government auctions oil and timber leases
119
3 types of auction?
1. English ascending-bid auction
2. Dutch descending-bid auction
3. First-price sealed-bid auction
120
How does the price mechanism allocate scarce resources?
Changes in the market equilibrium price to eliminate excess demand or supply
121
What is joint supply?
When one good is produced and another good is produced concurrently as a side effect
122
Example of joint supply?
If the price of beef increases, and therefore more cows are slaughtered, the supply of leather will increase, subsequently leading to a fall in leather price
123
Explain how a rise in the price of timber leads to a fall in the price of leaf silage?
They are in joint supply - trees cut down, hence supply of trees' leaves increases. If no linked rise in demand for trees occurs, price of leaves falls
124
Illustrate joint supply?
Good 1 (TARGET GOOD) has a demand shift outwards
## Footnote
Good 2 (BYPRODUCT) has a supply shift outwards
125
Illustrate the effect of a rise in the price of Sony Consoles on Sony Console Games, what is the effect called?
Demand for Sony Console Games has a leftward demand shift
## Footnote
Joint Demand
126
Illustrate the effect of a rise in the price of Sony Consoles on the demand for Xbox Consoles and what is this called?
Demand curve for Xbox consoles shifts rightwards
## Footnote
This is called competitive demand because the goods are substitutes
127
What is composite demand and how is it different from joint demand?
Composite demand is
128
What is the effect called when demand for Sony Console Games has a leftward demand shift due to a rise in the price of Sony Consoles?
Leftward demand shift
129
What happens to the demand for Xbox Consoles when the price of Sony Consoles rises?
Demand curve for Xbox consoles shifts rightwards
## Footnote
This is called competitive demand because the goods are substitutes.
130
What is composite demand?
Composite demand is demand for a good with more than one use.
131
What happens to the supply of wheat grain when the demand for biofuel rises, assuming PES is inelastic?
Demand curve for biofuel shifts rightwards; supply curve for wheat grain shifts leftwards.
132
What happens to the demand for car-making robots if the demand for cars falls?
Falls
## Footnote
This is due to derived demand for car-making robots.
133
How are joint supply, joint demand, competitive demand, derived demand, and composite demand linked?
They are all concepts related to the interdependence of goods in demand and supply.
134
What effect do improvements in technology have in the agricultural world?
They have outpaced the growth of populations in matching increasing demand for food.
135
What is the effect of a rise in agricultural prices in the short-run?
Prices could be higher due to steeper supply and demand curves.
136
Why are the supply curves and demand curves for agricultural markets steep?
High PES and PED.
137
What are two things affecting consumer demand?
1. Willingness to pay (tastes and preferences)
2. Ability to pay.
138
What happens to the market demand curve for a normal good if mean incomes rise?
Shift rightwards.
139
What happens to total revenue at unitary PED when there is a price change?
Doesn't change it.
140
What happens to PED when close substitutes are readily available?
Becomes much more elastic.
141
What is the PED for addictive goods?
More inelastic PED.
142
What area represents total revenue on a demand curve?
Rectangle under the triangle.
143
When is total revenue maximized?
When PED is +/- 1.
144
At what geometric point is PED -1 on a demand curve?
The midpoint between the axis intercepts.
145
What is the law of supply?
The tendency of suppliers to increase output when prices are higher.
146
What happens to supply when the government increases emissions permits?
Shifts right due to decreased cost of production.
147
What are two reasons for the inverse relationship between price and effective quantity demanded?
1. Income effect
2. Substitution effect.
148
What happens to the quantity demanded of substitute goods when the price of one good increases?
Will increase the quantity demanded of the other good.
149
What happens to the demand for complementary goods when the price of one increases?
Decreases demand for the other.
150
What is the law of demand?
Inverse relationship between price and quantity demanded.
151
What does an increase in demand mean?
The curve shifts right.
152
What happens to the demand for inferior goods when income rises?
Shifts left.
153
What does demand expansion imply?
Price falls.
154
What does demand contraction imply?
Price increases.
155
What happens to the quantity of flights to Greece if the price of flights to Ibiza drops dramatically?
Decrease (competitive demand).
156
What does elasticity fundamentally mean?
How responsive variable Y is to a change in variable X.
157
What is the formula for PED?
% change in quantity demanded / % change in price.
158
When is demand elastic?
When PED > 1.
159
When is demand inelastic?
When PED < 1.
160
When is demand unitary elastic?
When PED = 1.
161
What is YED?
% change in quantity demanded / % change in income.
162
What is the YED for inferior goods?
Negative.
163
What is the XED for complements?
Negative.
164
What is the XED for substitutes?
Positive.
165
What is the XED for independent goods?
0.
166
What is the PED for perfectly elastic demand?
+/- INFINITY.
167
What does a perfectly elastic demand curve look like?
Flat.
168
What does a perfectly inelastic demand curve look like?
Vertical.
169
What is the relationship between tax incidence and market concentration?
More concentrated markets have higher PED, hence less shifted to consumers.
170
What should firms do when PED is inelastic?
Raise the price to maximize revenue.
171
What happens to total revenue when demand is inelastic and price is increased?
Increases revenue.
172
What do extensions in supply follow?
The law of supply.
173
What do technological improvements do to the supply curve?
Shift the supply curve right - lower costs of production.
174
What does an indirect tax cause?
A leftward shift in the supply curve as production costs increase.
175
What does a direct tax cause?
A leftward shift of the demand curve.
176
What do producer subsidies do to the supply curve?
Shift supply curve right.
177
What do consumer subsidies do to the demand curve?
Shift demand curve right.
178
What does a more productive workforce do to the supply curve?
Shifts supply curve right.
179
What is PES?
% change in quantity supplied / % change in price.
180
What is elastic supply?
PES > 1.
181
What is inelastic supply?
PES between 0 and 1.
182
What is unit elasticity of supply?
PES = 1.
183
Why is high PES desirable?
Firms can maximize profits by rapidly responding to changes in price and demand.
184
What is the easiest way for firms to achieve high PES?
Improved technology, excess production capacity.
185
What happens to PES during recessionary periods?
More elastic.
186
What is the PES of perishable goods?
Inelastic.
187
What does agile factor mobility mean for PES?
Makes PES more elastic.
188
How does PES relate to time?
PES becomes more elastic over time.
189
Why do different industries have different PES?
Longer production chains.
190
What is outsourcing?
Outsource manufacturing when you need more.
191
What are the two assumptions of the price mechanism?
1. Perfect competition
2. Independence between supply and demand.
192
What will an increase in demand for toilet paper affect?
Quantity of toilet paper sold.
193
What is the overall impact on the price of US postal services if increased labour costs shift supply to the left and increased use of substitutes shifts demand to the left?
Impossible to determine.
194
What is joint demand?
Demand for complementary goods/services.
195
What is composite demand?
Goods that are demanded for more than one purpose.
196
What is derived demand?
Demand as a consequence of demand for other things.
197
What is joint supply?
Increase in the supply of one good increases the supply of another.
198
What effect does an indirect tax have on consumption?
Reduces it.
199
Why are price rises not as punitive for revenue when selling items that represent a small amount of people's incomes?
Lower proportion of income makes PED more inelastic.
200
What is the incentivising function of prices also known as?
Law of Supply.
201
How does macroeconomics influence price elasticity of supply?
During a recession, PES is greater.
202
What is the relation of PES to the gradient of the supply curve?
1/gradient.
203
What effect does perishability have on PES?
More perishable goods have a higher PES.
204
Why might PES remain higher in some markets for longer than others?
Different definitions of economic long run.
205
What are the three assumptions of the price mechanism?
1. Independence between supply and demand
2. Perfect competition
3. Ceteris paribus.
206
What is the difference between diminishing marginal returns and diminishing marginal utility?
Diminishing marginal returns concerns product; diminishing marginal utility concerns utility.
207
What are the two components of effective demand?
1. Willingness to pay
2. Ability to pay.
208
What does a rise in price cause in terms of demand?
Contraction.
209
What does a fall in prices cause in terms of demand?
Extension.
210
What effect does a rise in price for a normal good have on demand?
Demand contraction.
211
What does a positive PED indicate in exam questions?
It is usually done for ease.
212
Why might the demand for burgers go up in a recession?
Burgers are an inferior good.
213
What would the elasticity of demand of a perfectly inelastic good be?
Zero.
214
How does inelastic demand affect revenue when price is cut?
Revenue is reduced.
215
What is a key note on answering 9 markers on this topic?
Capitalize on opportunities to include elasticities in your diagrams.
216
On what two linear demand curves does PED not fluctuate?
Perfectly elastic and perfectly inelastic.
217
Why is revenue maximized halfway down the demand curve?
Here PED is +/-1.
218
When is PED minus infinity?
At zero quantity, maximum price.
219
When is PED zero?
At zero price, maximum quantity.
220
What is the numerical value of perfect inelasticity?
0.
221
Why are market demand curves hard to define?
Each individual's demand curve may be composed of different elasticities.
222
Can we use a marginal cost curve instead of a supply curve to explain the law of supply?
It should be avoided.
223
What is an example of an indirect tax on producers?
US Government collects $8bn per year in alcohol tax from producers.
224
True or False: An indirect tax is one levied on producers.
False.
225
How does the desire for firms to have high PES link to recent macroeconomic problems in the UK?
Firms need high PES to maximize revenue when demand increases.
226
What is elastic PES?
PES > 1.
227
What is inelastic PES?
1 > PES > 0.
228
When is an inelastic or unitary PES acceptable?
1. When firms have market power
2. When demand is predictable.
229
What are two reasons PES > 1 is better than PES = 1?
1. Greater ability to hoover up extra revenues from high prices
2. Market share can be gained.
230
What is the PES of perishable goods?
More inelastic due to higher wastage risks.
231
What is an example of an industry with low PES due to perishability?
Norwegian salmon farmers.
232
What is an agile good or service?
One with a PES > 1.
233
What is an example of an agile service?
Uber.
234
What is an example of how a service has become less agile due to government legislation?
UKSC ruled in 2021 that Uber drivers are employees.
235
Why is PES influenced by the long-run/short-run?
Long-run easier to adjust factor allocation.
236
How can we increase PES by outsourcing? Give an example.
Apple uses Foxconn to dial up production quickly.
237
How can a lack of independence between supply and demand affect the price equilibrium model?
Expansions in supply or demand being met by the other.
238
How does elasticity affect how a change in supply or demand is translated into price?
Highly elastic price and supply curves lead to bigger change in quantity than price.
239
What happens to quantity when there is a sudden increase in demand for toilet paper during a pandemic?
Quantity increases due to highly elastic PES.
240
What are the three types of interrelated demand?
Joint, composite, and derived.
241
What does a negative XED indicate about goods?
They are complementary.
242
What happens when demand is more price elastic?
Less tax incidence is passed onto the consumer.
243
What must the PED be if a firm is selling a product about to be levied with an indirect tax?
0, perfectly inelastic.
244
Why are firms selling perishable goods more price inelastic in supply?
They cannot store the goods.
245
What is a market?
Any voluntary meeting of buyers and sellers where exchange takes place.
246
What must the PED be if demand for a product remains the same when an indirect tax is levied?
0, perfectly inelastic
247
Why are firms selling perishable goods more price inelastic in supply?
They cannot store the goods to wait for more favourable market conditions.
248
Explain in terms of price elasticities why the housing market has long-term rising prices.
YED for housing exceeds +1, but demand for housing is price inelastic. Furthermore, price elasticity of supply is also inelastic. The result is that prices are affected more than output when demand rises.
249
Example of how PES can be affected by regulation?
PES for housing in the UK is +0.3, compared to +2.0 in the US where regulations are laxer.
250
True or false - a direct tax shifts the demand curve leftwards?
No, not if the good is an inferior good!
251
What are the 3 types of bidding?
1. English auctions (ascending bid auctions)
2. Dutch auctions (descending bid auctions)
3. First-price sealed-bid auctions
252
Why is composite demand something of a misnomer?
Easier to consider as competitive supply - supply for one source restricts supply for another.
253
Example of composite demand?
8.4% of motor fuels in the UK are made from biofuels, often wheat and maize, which are staple foods in the developing world, increasingly facing a food crisis.
254
What are the 3 reasons for fluctuating agricultural prices?
1. Long run trends - farms more productive, hence supply shifts right
2. Demand and supply both highly price inelastic
3. Supply prone to shifts due to factors beyond human control
255
What is a consumer durable? Give an example.
A good/service that continues to provide constant levels of utility long after it has been purchased.
## Footnote
A car, with an average lifetime of 15 years.
256
Does the consumer buy the good where P=MU?
Yes, because it still adds to utility.
257
When might we see a market with unitary PED?
If it is a market for luxuries which consumers dedicate a fixed share of income to.
258
Example of a good which was more PED inelastic than initially thought?
Eggs in the US, famously increased in price in recent months, but low PED means increase in price has mostly translated into a rise in revenue.
259
What is supply?
Quantity of a good or service producers are willing and able to produce at a given price in a given time period.
260
What assumption is necessary for the law of supply?
Ceteris paribus - conditions of supply must remain constant.
261
What is the mnemonic for conditions of supply?
PINTSWC
## Footnote
Productivity, Indirect tax, Number of firms, Technology, Subsidy, Weather, Costs of production.
262
What is the supply curve dictated by for a private firm? Evaluate for a public sector firm.
Incentive function and profit motive. For a public-sector firm, the same is not true. Supply curves likely to be more inelastic.
263
What is the most important generalisation vis-a-viz conditions of supply?
Most are cost of production related, except ones concerning the whole market.
264
Why is productivity a complicated condition of supply?
May lead to an increase in wages if shifts right.
265
What do subsidies effectively lower?
The cost of production.
266
What is a free market?
Wherever buyers meet suppliers to exchange goods and services, 'free' in the sense that government is not intervening.
267
What is equilibrium?
Where demand = supply.
268
What do free market equilibriums in neoclassical economics necessarily create?
Allocative efficiency.
269
Why did Smith believe the price mechanism would self-correct?
4 functions of prices.
270
Illustrate a shortage.
Price below equilibrium.
271
Explain how a shortage is corrected by the price mechanism.
1. SIGNALS that a disequilibrium has occurred. More resources needed from both within and outside the market.
2. INCENTIVISE producers to increase production.
3. RATION resources to reduce D.
4. THE NET RESULT IS AN ALLOCATIVELY EFFICIENT OUTCOME.
272
Explain how a surplus is corrected by the price mechanism.
1. SIGNALS there are too many firms in a market overproducing hence discourage entry/encourage exit.
2. INCENTIVISE producers to liquidate stock.
3. LOWER prices ENCOURAGE consumption and hence reverse rationing occurs.
4. ALLOCATIVE FUNCTION kicks in.
273
Whenever supply and demand moves, what should you use?
An arrow on the diagram to show.
274
What are the 2 things the signalling function does?
1. Indicates a disequilibrium in the market.
2. Calls upon more/less resources to achieve allocative efficiency.
275
How to illustrate destocking?
Excess supply on a price/supply graph. Firms react slowly, and fill up their reserves. They destock with this. Up to 50% of recession.
276
What can we use for welfare analysis?
Consumer and producer surplus.
277
What is consumer surplus?
The difference between the highest price a consumer is willing and able to pay and the price they actually pay.
278
What is producer surplus?
The difference between the lowest price the firm is willing and able to supply at and the price they actually receive.
279
On a D/S graph, where is consumer surplus?
The top triangle.
280
On a D/S graph, where is producer surplus?
The bottom triangle.
281
What does society surplus mean?
Consumer surplus + Producer surplus.
## Footnote
ECONOMIC WELFARE!
282
How is derived demand illustrated?
Both curves shift right.
283
Explain the decrease in cyclical unemployment using derived demand.
Labour's derived demand increases during a growth period.
284
How to remember PED formula?
Q over P - Q before you P.
285
When doing elasticity questions, what should you remember in the workings?
Leave your answer with the +/- before it.
286
What is the mnemonic for PED?
SPLAT
## Footnote
Substitutes, Percentage of income, Luxury/necessity, Addictive/habit-forming, Time.
287
What does EOIS mean?
Elastic opposite, inelastic same. When PED is elastic, a fall in price has the opposite effect (raises revenue). When PED is inelastic, a fall in price causes the same effect (fall in revenue).
288
How to prove the relationship between PED and revenue on a diagram?
Area under the curve in various states, with areas change.
289
Does PES vary along all non-unitary PES supply curves?
NO - if it goes through the origin then no.
290
How to illustrate XED?
For complements - negative P(A) against Q(B) - slope indicates XED. For substitutes - positive. Think about it.
291
What does it mean if demand is income elastic?
Increase in demand outpaces increase in income.
292
What is YED less than -1 described as?
Income elastic inferior good.
293
What are the 2 ways businesses use PED to make marketing decisions?
1. Pricing decisions - how they can maximise revenue by changing prices.
2. Future production decisions - how can we allocate scarce factors of production to anticipate future changes in demand for products, and hence their changes in price, given certain PEDs?
294
How can firms make their supply more PES?
Think PSSST
## Footnote
Production lag, Stocks, Spare capacity, Substitutability of factors, Time.
295
What are the 2 examples of decisions which businesses can make using XED?
1. Pricing decisions regarding complements - if a business supplies both complements, it can cut the price of one and raise the price of another in order to raise revenue. E.g. EPSOM - CARTRIDGES AND PRINTERS.
2. If your XED indicates a substitute, you can use PRICE COMPETITION, or attempt to use NON-PRICE COMPETITION - preferable due to price war.
296
Example of product differentiation?
Apple - blue bubble on texts, Economist 2025 reports.
297
Why do firms consider YED in marketing decisions?
Depending on whether it is an inferior or a normal good, producers plan stock etc. for economic cycles.
298
You're a business producing an inferior good and you see a recession on the horizon. How might this influence marketing decisions?
Prepare for a demand shift right. Need to increase supply or stock.
299
Why does stocking increase before a recession for producers of inferior goods?
Plan for increased demand at a lower price.
300
What are the 3 problems with using elasticities for marketing decisions?
1. Only an estimate - surveys are only consumers giving their best guess.
2. Assume ceteris paribus - conditions of demand and supply may change.
3. PED varies along the demand curve.
301
What to say about using elasticities for marketing decisions in an essay?
To be used as a guide, but not itself enough to direct marketing decisions.
302
What are the 2 reasons for the use of indirect taxes?
1. Correct market failure.
2. Generate government revenue.
303
What is an indirect tax?
Expenditure tax that increases cost of production for firms but can be transferred to consumers via higher prices.
304
What is another name for a unit tax?
Specific tax.
305
Example of an ad valorem tax?
VAT.
306
What is the VAT rate?
20%.
307
What is another name for burden?
Incidence.
308
What is the producer revenue from a tax diagram?
Same logic, just the area price x quantity, SUBTRACT THE ENTIRE AREA OF TAX.
309
What is the welfare analysis for an indirect tax?
1. Regressive - higher proportion spending.
2. Price inelastic greater impact.
3. CONSUMER SURPLUS SHRINKS, PRODUCER SURPLUS SHRINKS, use the welfare triangle.
310
Example of how indirect taxes are unpopular?
Road taxes early on were unpopular.
311
What happens to indirect tax incidence as PED varies?
1. Price elastic - less shifted incidence.
2. Price inelastic - more shifted incidence.
312
What is the effect on government revenue of PED from indirect taxes? Why?
1. Elastic PED - lower government revenue, but still some value even if perfectly elastic demand.
2. Inelastic PED - higher government revenue. Because of the fall in quantity in either instance.
313
What is the effect of PES on indirect taxes?
Elastic PES:
1. Consumer incidence higher.
2. Producer incidence lower.
And vice versa.
314
If supply is perfectly inelastic, indirect tax incidence is felt...
Entirely on producers because it cannot shift left.
315
What is a subsidy?
Money grant given to firms by government to reduce costs of production.
## Footnote
1. To reduce market failure.
2. To increase affordability.
316
Example of subsidy corruption?
2025 - Premier League clubs reported to be using subsidies for tax evasion.
317
What is the key thing with subsidy cost to government?
Must be the area between the curves AT THE NEW PRICE/QUANTITY EQUILIBRIUM.
318
What is consumer opinion of subsidies?
1. More affordable and more savings - good.
2. OPPORTUNITY COST - higher debt, and source of funds.
3. More employment in subsidised industries.
319
What is producer opinion of subsidies?
Good - producer surpluses.
320
What is government opinion of subsidies?
1. Good for correcting market failure.
2. But aware of risk of government failure if subsidies go towards uncompetitiveness things and also spending on unproductive expenses.
