Chapter 2 Flashcards
(29 cards)
Define micro economics
is the study of the economic behavior of individuals as consumers and producers. “the study of the individual parts of the economy that interact to make up the whole economy”
Define a market
The market is seen as any place (which may or may not be physical space) that enables buyer and sellers to interact and exchange goods and services
Define a competitive market
where all economic agents are price takers – no individual buyer or seller has the power to influence prices
Define price takers
where there are a large number of buyers and sellers in the market and each of them has little influence on the prices. (occurs in completive markets)
Resources can be moved quickly in a competitive market which enables price signals to do their job – it is therefore assumed that there are lower barriers to enter and exist a market so that profitable opportunities can be taken advantage of.
“The price that is determined in the free market is a compromise between the desires of the buyers and the sellers”
Define consumer surplus
what consumers receive if they obtain the good or services for less than the maximum they are willing to pay (cheaper than they thought)
Define producer surplus
what producers receive if they are able to sell the product at a price above their economic costs
Define market/price mechanism
price mechanism) describes how the forces of demand and supply determine the relative prices of goods & services, which will then ultimately determine the way our productive resources are allocated in the economy
Define the law of demand
As the price of the product increases the quantity demand will tend to decrease, conversely if the price of the product decreases the quantity demand will tend to increase.
states as price increases, the demand of a good or service decreases. This is logical as at high price levels, less goods and services will be demanded. In simple terms, the willingness and ability to purchase the good or service diminishes as price rises resulting in some buyers dropping out of the market altogether
The law of demand can be supported in three ways :
Income effect
Some people may no longer be able to afford the product at the same price. At a lower price we can afford more of a good or service. As prices increase however some household budgets will no longer cater for the purchase of products.
substitution affect As prices rise there will be less demand. More will drop out of the market as the price exceeds it’s perceived value. Higher prices may also encourage consumers to look at cheaper alternatives (substitutes) that are available in the market, so quantity demand is likely to fall
Demising marginal utility Each successive item of the product purchased yields less satisfaction therefore a lower price is needed to stimulate greater purchases of the product by individuals
Key demand factors
Disposable income Substitutes Complements Change in interest rates Consumer confidence Preference tastes and population growth
Explain substitutes affect on demand
A substitute is a viable good or service that may be used instead of the product in question. For example, in the market for Televisions the two main substitutes are LCD and Plasma. If the price of LCD TVs increased, it would be reasonable to expect that some consumers would look for the cheapest alternative that meets their needs, resulting in shift of the demand curve to the left.
Explain complements affect in demand
Refer to items that are consumed together. For example, if the price of either type of TV increases then it would be reasonable to expect a decrease in the demand for Blu-Ray players, shifting the demand curve to the left as some consumers will be unable to purchase both
Define the law of supply
As the price increase for a good or service there will generally be an increase in the quantity supplied
As price rises quantity increases
As price falls quantity supplied decreases
Law of supply makes sense because
The law of supply makes sense because:
A higher price received for the product represents an increase in the revenue for the supplier
A higher price increases the opportunity cost of using resources to supply an alternative product
To increase production, the cost per unit might increase (the marginal cost may rise)
Factors affecting supply
Availability of resources llk Price of other products Technological and productive growth Climate conditions Profit margins
Define elequiliberium price
The price at which quantity demanded equals quantity supplied
Define disequilibrium
When the market is in a state of excess demand or excess sulk due to the price being to low or high
Define relative prices
The prices of products relative to other products. Changes in relative prices send clear signals to producers and consumers and therefore direct resources to their most profitable ends
This usually involves dividing the price of one good by the price of another.
It is therefore a measure of opportunity cost
E.g cd = $20 and the album = $10 so the relative price is 20/10 = 2:1
This means for every cd you purchase you forego the opportunity to purchase 2 albums
relation to ‘what to produce’ an economy relies on the market mechanism to allocate resources to those goods that are in high demand. When the relative price of a good or service increases due to an increase in demand (or decrease in supply)this sends a clear signal to economic agents.
Consumers are said to be the main drivers of resource allocation in the market based economy.
Define price mechanism
describes how the force of demand and supply determine relative prices of goods and services, which then ultimately then determines the way our productive resources are allocated in the economy
Price mechanism will influence ‘how resources are produced’
Businesses want to maintain profits thus reduce production costs
As relative prices change in various markets and as a result demand for a good or service may rise, it sends a signal to suppliers that profit opportunities exist if they direct their resources into those areas experiencing higher demand. Thus the changing conditions in the market have caused a change in the way resources are allocated.
What is the price elasticity of demand formula
Change in quantity of demand
Price elasticity of demand (PED) = —————————————-
% Change in price
Explain high elastic demand
“If the absolute value is greater than 1
The % change in quantity will be greater than the % change in price.
If they increase the price they will lose a much bigger % in quantity demand curve where the PED is high would be one that is relatively flat
Explain medium elastic demand (unit elastic)
“In some cases the % change in quantity demanded and the price may be equal – this is called ‘unit elasticity’ because the elasticity value will be exactly 1
“
Explain low elastic demand (inelastic)
“If the value is less than 1
The % change in the quantity demand will be less than the change in price. This will mean that if the supplier lowers their price they are likely to attract a smaller % increase in the quantity demand. An increase in price however would result in a smaller % quantity demand loss. Where the PED is low would be one that is relatively steep”
Define elastic
Refers to either the demand or supply curve where the responsiveness of demand (or supply) to a change in price is high
