The market mechanismThe market mechanism
OutlineOutline 1. Introduction1. Introduction
2. Markets versus planning2. Markets versus planning
3. Demand and supply3. Demand and supply
4. Movements & shifts in demand & supply4. Movements & shifts in demand & supply
1. Introduction1. Introduction What is economics about?What is economics about?
Scarce resources Scarce resources • Resources = factors of productionResources = factors of production
Choice = sacrificeChoice = sacrifice• opportunity costopportunity cost
Rational choiceRational choice• consumers - ‘value for money’consumers - ‘value for money’• firms - profitfirms - profit• benefits versus costsbenefits versus costs
Marginal costs v. marginal benefitsMarginal costs v. marginal benefits
2. Markets v. central planning2. Markets v. central planning How should resources be allocated?How should resources be allocated?
Planned or command economy Planned or command economy AdvantagesAdvantages
• high investment & economic growthhigh investment & economic growth
• low unemploymentlow unemployment
• equal distribution of incomeequal distribution of income
• environmentenvironment DisadvantagesDisadvantages
• complex economy - information?complex economy - information?
• Inefficient allocation of resourcesInefficient allocation of resources
• absence of incentivesabsence of incentives
• loss of libertyloss of liberty
Free marketFree market Decentralised decision-makingDecentralised decision-making Self-interested behaviourSelf-interested behaviour
resources allocated automaticallyresources allocated automatically efficient allocation of resourcesefficient allocation of resources incentives - e.g. efficient firms make bigger incentives - e.g. efficient firms make bigger
profitsprofits competition enhances consumer sovereigntycompetition enhances consumer sovereignty
‘‘The pursuit of private gain results in the The pursuit of private gain results in the social good’social good’
Mixed economiesMixed economies
Totallyplannedeconomy
Totallyfree-marketeconomy
Classifying economic systemsClassifying economic systems
Totallyplannedeconomy
Totallyfree-marketeconomy
N. KoreaCuba Poland France
UKUSA
Early 1980s
China HongKong
Classifying economic systemsClassifying economic systems
Totallyplannedeconomy
Totallyfree-marketeconomy
N. Korea
N. Korea
Cuba
China
Poland
Poland France
France UK
UKUSA
USA
Early 1980s
Early 2000s
China HongKong
CubaChina(HongKong)
Classifying economic systemsClassifying economic systems
3. The market - demand & supply 3. The market - demand & supply ExchangeExchange
markets - prices act as a signal markets - prices act as a signal Producer (supply)Producer (supply) Consumer (demand)Consumer (demand)
Competitive marketCompetitive market medium of exchangemedium of exchange competitioncompetition full informationfull information strong institutions & social customstrong institutions & social custom
3.1 Consumer demand3.1 Consumer demand
Determinants of consumer demand Determinants of consumer demand (a) price (a) price
• demand curve & demand functiondemand curve & demand function QQdd= a - bP= a - bP
• Movements along the demand curveMovements along the demand curve Price rise – move upPrice rise – move up Price fall – move downPrice fall – move down
figfig
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Quantity (tonnes: 000s)
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Price(pence per kg)
20
Market demand(tonnes 000s)
700A
Point
A
Market demand for potatoes Market demand for potatoes (monthly)(monthly)
Market demand for potatoes Market demand for potatoes (monthly)(monthly)
Demand
figfig
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Pri
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Price(pence per kg)
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40
Market demand(tonnes 000s)
700
500
A
B
Point
A
B
Market demand for potatoes Market demand for potatoes (monthly)(monthly)
Market demand for potatoes Market demand for potatoes (monthly)(monthly)
Demand
figfig
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0 100 200 300 400 500 600 700 800
Quantity (tonnes: 000s)
Pri
ce (
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er k
g)
Price(pence per kg)
20
40
60
Market demand(tonnes 000s)
700
500
350
A
B
C
Point
A
B
C
Market demand for potatoes Market demand for potatoes (monthly)(monthly)
Market demand for potatoes Market demand for potatoes (monthly)(monthly)
Demand
figfig
0
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100
0 100 200 300 400 500 600 700 800Quantity (tonnes: 000s)
Pri
ce (
pen
ce p
er k
g)
Price(pence per kg)
20
40
60
80
Market demand(tonnes 000s)
700
500
350
200
A
B
C
D
Point
A
B
C
D
Market demand for potatoes Market demand for potatoes (monthly)(monthly)
Market demand for potatoes Market demand for potatoes (monthly)(monthly)
Demand
figfig
0
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0 100 200 300 400 500 600 700 800
Quantity (tonnes: 000s)
Pri
ce (
pen
ce p
er k
g)
Price(pence per kg)
20
40
60
80
100
Market demand(tonnes 000s)
700
500
350
200100
A
B
C
D
E
Point
A
B
C
D
E
Market demand for potatoes Market demand for potatoes (monthly)(monthly)
Market demand for potatoes Market demand for potatoes (monthly)(monthly)
Demand
Consumer demandConsumer demand Determinants of demand (shifts)Determinants of demand (shifts)
(b) income - level & distribution(b) income - level & distribution (c) price of substitutes & complements(c) price of substitutes & complements (d) demography & age structure(d) demography & age structure (e) tastes & fashion - advertising(e) tastes & fashion - advertising (f) seasonal(f) seasonal
• (b)-(f) lead to shifts in the demand curve (b)-(f) lead to shifts in the demand curve
SupplySupply
The supply curve & functionThe supply curve & function QQss = a + bP = a + bP Movements along the curveMovements along the curve
• Price changesPrice changes Shifts in the supply curveShifts in the supply curve
• Changes in other determinantsChanges in other determinants
0
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0 100 200 300 400 500 600 700 800
Pri
ce (
pen
ce p
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Quantity (tonnes: 000s)
Supply
a
P
20
Q
100a
Market supply of potatoes (monthly)Market supply of potatoes (monthly)
0
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100
0 100 200 300 400 500 600 700 800
Pri
ce (
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ce p
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Quantity (tonnes: 000s)
Supply
a
b
P
20 40
Q
100200
ab
Market supply of potatoes (monthly)Market supply of potatoes (monthly)
0
20
40
60
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100
0 100 200 300 400 500 600 700 800
Pri
ce (
pen
ce p
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Quantity (tonnes: 000s)
Supply
a
b
c
P
20 40 60
Q
100200350
abc
Market supply of potatoes (monthly)Market supply of potatoes (monthly)
0
20
40
60
80
100
0 100 200 300 400 500 600 700 800
Pri
ce (
pen
ce p
er k
g)
Quantity (tonnes: 000s)
Supply
a
b
c
d P
20 40 60 80
Q
100200350530
abcd
Market supply of potatoes (monthly)Market supply of potatoes (monthly)
0
20
40
60
80
100
0 100 200 300 400 500 600 700 800
Pri
ce (
pen
ce p
er k
g)
Quantity (tonnes: 000s)
Supply
a
b
c
d
e
P
20 40 60 80100
Q
100200350530700
abcde
Market supply of potatoes (monthly)Market supply of potatoes (monthly)
3.2 Supply3.2 Supply
Determinants of supply (shifts)Determinants of supply (shifts)
technological innovation - product and/or technological innovation - product and/or processprocess
change in price of factor inputschange in price of factor inputs disasters - natural & humandisasters - natural & human strikes, regulation, organisation of the strikes, regulation, organisation of the
firm firm
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