Micro 3.1.2 price determination in competitive markets

Question 1

define complementary goods

Answer 1

where changes in demand for one good mirror the change in demand for another

Question 2

define substitutes

Answer 2

are products that can be used as alternatives to one another to satisfy a particular need or want

Question 3

define contraction in demand

Answer 3

increase in price cause a movement along the demand curve causing a decrease in quantity demanded

Question 4

define extension in demand

Answer 4

decrease in price cause a movement along the demand curve causing a increase in quantity demanded

Question 5

5 factors causing a shift in demand

Answer 5

1. income - income rises demand falls, causes a right shift in demand. however some products are inferior goods so as income rises demand falls causing a leftward shift
2. substitutes - price of a substitute good decreases, demand for the original good decreases as consumers switch to cheaper substitute
3. complimentary goods - price of a complimentary good decreases, the demand for original good will increase as often used together
4. individual preferences - more fashionable demand will increase
5. social and emotional

Question 6

define inferior goods

Answer 6

goods or services that are of lower quality or lower value compared to other goods or services in the same category

Question 7

define price elasticity of demand (PED)

Answer 7

a measure in economics that quantifies the responsiveness of the quantity demanded of a good or service to change in its prices

Question 8

formula for PED

Answer 8

% change in quantity demanded / % change in price

Question 9

using the following ranges define the price elasticity of goods:
1. if PED > 1
2. if PED < 1
3. if PED = 1
4. if PED = 0
5. if PED is infinite

Answer 9

1. demand is elastic (very responsive,D curve is flatter)
2. demand is inelastic (not very responsive,D curve is steeper)
3. demand is unit elastic (proportional response, diagonal line)
4. demand is perfectly inelastic (quantity demanded doesn’t change, straight line vertical)
5. demand is perfectly elastic (consumer only buy at one price, straight line horizontal)

Question 10

identify the 4 determinants of PED

Answer 10

1. closeness of substitutes (S)
2. time since a price change (T)
3. proportion of income spent on goods (I)
4. whether the good is a necessity of luxury (N)

Question 11

explain the 4 determinants of PED

Answer 11

S - if good can be substituted for another similar good then PED is elastic
T - longer the time period the more elastic as more time to find a close substitute
I - spending on a good is a small proportion of available income makes the PED lower
N - PED is lower if product is a need

Question 12

define income elasticity of demand (YED)

Answer 12

measures responsiveness of the quantity demanded of a good or service to changes in consumer income

Question 13

formula for YED

Answer 13

% change in quantity demanded / % change in income

Question 14

using the following ranges define the income elasticity of demand:
1. positive YED (>0)
2. negative YED (<0)
3. YED = 1
4. YED = 0

Answer 14

1. normal good (demand increases as income increases)
   - YED > 1: luxury good (highly responsive)
   - 0 < YED < 1: necessity good (less responsive)
2. inferior good (demand decreases as income increases)
3. unit income elastic and is a normal good
4. demand for good doesn’t change with income

Question 15

define cross elasticity of demand (XED)

Answer 15

measures the responsiveness of quantity demanded of a good or service (good X) to changes in price of another good or service (good Y)

Question 16

formula for XED

Answer 16

% change in quantity demanded for good X / % change in price of good Y

Question 17

using the following ranges define the cross elasticity of demand:
1. positive XED
2. negative XED
3. XED = 0

Answer 17

1. the two goods are substitutes (price increase of good B leads to demand increase of good A)
2. the two goods are complements (price increase in good B leads to a decrease in demand for good A)
3. the two goods are unrelated (change in price of one good does not affect the demand for the other)

Question 18

what way does the demand curve shift and why

Answer 18

shift right - increased demand
shift left- decreased demand

Question 19

what are the 7 non-price factors causing a shift in demand

Answer 19

1. cost of production
2. changes in production technology
3. government policies
4. climate conditions
5. number of producers
6. price of related goods
7. expectations of future prices

Question 20

define price elasticity of supply (PES)

Answer 20

measures the extent to which the quantity supplied of the product changes in response to change in price of the product

Question 21

formula for PES

Answer 21

% change in quantity supplied / % change in price

Question 22

using the following ranges define price elasticity of supply:
1. if PES > 1
2. if PES < 1
3. PES = 1
4. PES = 0
5. PES = ∞

Answer 22

1. elastic supply (percentage change in price leads to greater percentage change in quantity supplied, supply curve relatively flatter)
2. inelastic supply (percentage change in price leads to a smaller percentage change in quantity supplied, supply curve is relatively steeper)
3. unitary elastic supply (percentage change in quantity is exactly equal to percentage change in price, diagonal supply curve)
4. perfectly inelastic supply (quantity supplied does not change regardless of price change, horizontal line)
5. perfectly elastic supply (changes in price leads to infinitely large change in quantity supplied, vertical line)

Question 23

what way does the supply curve shift and why

Answer 23

shift right - increased supply
shift left - decreased supply

Question 24

define equilibrium market price

Answer 24

that price at which the quantity demanded equals the quantity supplied and there is no tendency for the price change

Question 25

define market disequilibrium

Answer 25

when the quantity supplied and the quantity demanded in the market are not equal at a given price, result in either a surplus or shortage

Question 26

define surplus and shortage

Answer 26

* **surplus** - *excess supply*, when price is above the equilibrium, leading to high quantity supplied than demanded * **shortage** - *excess demand*, when price is below equilibrium, resulting in higher quantity demanded than supplied

Question 27

what happens in a free market when there is a shortage or a surplus

Answer 27

prices will adjust in response to a surplus or shortage to move the market back towards equilibrium. However, in the presence of external interventions such as price controls, taxes or subsidies disequilibrium can persist

Question 28

what are the 5 functions of pricing

Answer 28

1. **rationing** - *price helps ration scarce resources among competing uses*. (short supply, its price rises, reducing demand and allocating the good to those who are willing to pay more) 2. **incentive** - *Prices provide incentives for producers and consumers*. (For producers, higher prices means increase production as more profitable. For consumers, higher prices mean reduction in demand, while lower prices encourage more consumption) 3. **signalling** - *Price convey important information for buyers and sellers* (Rising price signals mean producer increase supply, falling price signal mean producer decrease supply) 4. **allocative** - *Prices help allocate resources to their most efficient uses* (in competitive market, resource directed towards production of goods/services most valueable to consumers as willing to pay) 5. **equilibrium** - *Prices help bring markets to equilibrium by balancing supply and demand*. (mismatch between supply and demand, prices adjust to eliminate surpluses and shortages, leading to a stable market equilibrium)

Question 29

what cause an increase in demand

Answer 29

non price factors

Question 30

what is a price floor, its effects and examples

Answer 30

implemented by the government to protect producers and ensure **there is a minimum price paid for goods or services**, set above equilibrium point to ensure price does not fall too low | minimum wage, agricultural price support ## Footnote **effect: ** When a price floor is set above the equilibrium price, it can lead to a surplus, where the quantity supplied exceeds the quantity demanded. This happens because the artificially high price encourages producers to supply more while discouraging consumers from purchasing the good or service

Question 31

what is a price ceiling, its effect and examples

Answer 31

implemented by the government to protect consumers and ensure **there is a maximum price paid for goods or services**, set below equilibrium point. | rent control ## Footnote **effect**: When a price ceiling is set below the equilibrium price, it can lead to a shortage in the market. This occurs because the lower price increases demand while reducing the incentive for producers to supply the good or service, resulting in an excess of demand over supply.

Question 32

what are the pros and cons of national minimum wage

Answer 32

**pros**: * prevent poverty * reduce wage difference * incentive to work * high wages so higher productivty **cons**: * unemployment * youth lose out the most * increase cost of business

Question 33

define joint demand

Answer 33

situation where two or more goods are demanded together because they are complementary to each other | demand for car increases so does fuel

Question 34

define composite demand

Answer 34

the demand for a good or service that has multiple uses | crude oil - gasoline, plastics, chemical

Question 35

define derrived demand

Answer 35

the demand for a good or service that arises from the demand for another related good or service | raw materials - steel is derrived from demand of cars and building

Question 36

define joint supply

Answer 36

Output of one product also results in the output of a different product | increase in sheep production you can now produce both wool and lamb