GCE(A-level) ECONOMIC B Theme 1 -Price mechanism

Introducing the market 

The limitations of the supply and demand model   

l It is a simplified set of complex events that hard to understand.

l It assumes that businesses, individuals and other organisations have full information.

In fact, we almost never have complete information.

l Another simplified assumption is that all markets are competitive.

Functions of the price mechanism to allocate resources: rationing, incentives and signaling                          

1.   Signaling

Prices give signals to producers and consumers

2.  Rationing

People who are willing and able to pay to get the products

In a free market, resources are allocated by the profit signaling mechanism

Consumers can buy only the products that they can pay for.

Resources are rationed effectively.

Profits act as an incentive to respond to changing demand, which makes businesses to use more resources to produce the popular products.

This signal tells businesses to carry on upgrading the products and manufacture more.

This is consumer sovereignty which means that consumers control resource use by deciding what to buy. When it works well, it provides best standard of living to whole society.

However, it dost not always work in real life because:

Consumers are not always making rational decision.

Buyer and seller not always know what is happening in the market. Markets are not always competitive.

Moreover, the price mechanism sheds no light on income distribution so the use of resource can be dominated by the rich.

The price mechanism in the context of different types of market                                     

Mass market

Some products are standardized and targeted at a broad market segment.

Production is large scale and average cost can be fall with economies of scale in order to compete with rival.

Businesses that supply for mass market will be large.

In mass market, business often competes with price

Niche market

The products are specialized by particular needs and wants.

Price will often tend to be higher in niche market.

In niche market, they can compete with quality and unique feature so that they can build up consumer loyalty.

As a result, successful producer in niche market can reduce competition and charge premium price