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Unit 2 Economics: The Allocation of Resources (supply and demand, how the market works)

Terms in this set (38)

Free market economy
in this system the forces of market demand and supply, without any government intervention, determine how resources are allocated, what to produce is decided upon by the profitability for a particular product, the consumer is said to be sovereign - their "economic votes" determine how resources are allocated
Mixed economy
in this system there is a mixture of a pure free-enterprise market economy and a command economy, there is a private sector and a public sector in the economy
Planned economy
all key economic decisions are made by the government, the government decides what to produce, how it is to be produced and how it is to be allocated to consumers, goods and services can be produced to satisfy the needs of all the citizens of a country, not just those who have the money to pay for goods
Free market economy advantages
the aim of the entrepreneurs is earning more and more profit which increases efficiency, variety of goods/services are produced so consumers are free to choose what they want to buy (consumer satisfaction and profitability), neither shortage nor surplus of goods/services is faced so resources are not wasted, competition faced by the businesses along with the forces of demand and supply determines the prices of products, keeping them low, new businesses are encouraged by the profits and new improved ways of making goods/services
Free market economy disadvantages
no government-provided service (e.g. health, education) are not there so only those who can afford to buy these services will benefit from them, thus the gap between the rich and the poor increases, non-profitable goods/services are not produced (e.g. roads), since the government has little control and planning economic booms or recessions may be faced, businesses may be encouraged to create monopolies, they may increase their prices, which will limit the choice of the consumers, demerit goods encouraged, causes higher rate of unemployment
Mixed economy advantages
increases national production in the country, both public and private sectors work hard to bring about more production, the problems created by free enterprise and too much public control are solved through mixed economy, it provides freedom of enterprise ownership and profit earning as well as social welfare and political freedom, national resources utilized under mixed economy, innovation, profit motive, healthy competition, waste less resources, variety of goods available
Mixed economy disadvantages
many _____ economy governments are pro-Unions and indifferent towards monopolies, situations can arise where one or a few businesses control an entire product, as a rule, the less companies there are that are fighting for control, the less competition there is, and therefore there will be less need to improve on products or reduce their price, and so there is less innovation
Planned economy advantages
entire industries can be created in a short time, maximises the continued utilization of resources, distribution of wealth, only products that are required are produced hence prevents production of demerit goods, (e.g. drugs), essential goods/services will be provided to the community (e.g. education)
Planned economy disadvantages
little consumer choice: since everything is allocated according to a planning process, consumers will have little say in what is provided directly by the state, little variety of goods and services, loss of individual freedom, inefficiency due to a lack of competition and no profit motive, no competition, subsidies on essential goods and services quickly lead to shortages, leading to queuing
Equilibrium price
found when supply and demand are equal, when both buyers and sellers are happy with the price and quantity
Demand
the amount that an individual or individuals are willing to buy at any given price (it is effective if the people can actually afford to make purchases), it increases as price falls
Supply
the amount of goods that producers are willing to supply/sell at a given price, it increases as price increases (more profit)
Shifts in demand
substitutes, population, expectations, complements, income, fashion, climate
Shifts in supply
subsidies/taxes, law, expectations, price (of factors of production and profit), technology, cost, weather
Demand increase
the good or service becomes more popular, increase in advertising on the good or service, other substitute goods (e.g. twix) increase in price, improvement in quality, people have larger incomes
Demand decrease
the good or service becomes less popular, decrease in advertising on the good or service, other substitute goods fall in price, fall in quality or a health scare, people have smaller incomes
Supply increase
cheaper raw materials (more profitable), more efficient production, better productivity, new technology
Supply decrease
more expensive raw materials (less profitable), less efficient production, poor productivity, poor weather / harvest
Price elasticity of demand
this measures the relationship between changes in price of a product and the change in demand for the product (sometimes a change in price has a major effect on the demand e.g. holidays to Jamaica, other times changes in price have a minor effect on the demand for the product e.g. petrol)
Elastic demand (price)
if the % change in quantity demanded is greater than the % change in price it has a major effect, and in this case demand is very responsive to a change in price
Inelastic demand (price)
if the % change in quantity demanded is less than the % change in price it has a minor effect, and in this case demand is not very responsive to a change in price
Price elastic goods
lots of substitutes, luxury, little loyalty to the product, often expensive
Price inelastic goods
very few substitutes, necessity or addictive, strong brand loyalty (e.g. Sony), usually not too expensive
Price elasticity of supply
this measures how supply (production) responds to a change in price
Elastic supply
supply changes by a greater percentage than price, firms are able to increase production quickly if prices increase, they must have some available labour and spare machinery/raw materials
Inelastic supply
supply changes by a lower percentage than price, firms are unable or choose not to increase production quickly if price increases
Substitutes
goods that are in competition with each other (Samsung and Apple products)
Complementary goods
goods that are needed to support each other (iPods and earphones)
Tax
a charge placed on the production of a good and service by the Government (e.g. petrol is taxed heavily by the Government), will increase cost in production causing lower supply (supply curve shift to left) and high inelastic demand
Subsidy
this is a payment of money by the Government to a producer in order to encourage them to produce or supply a certain good or service (e.g. an important bus route), will reduce the cost of production causing more supply (supply curve shift to right) and decrease the cost of the product
Revenue
the money that comes from sales
Excess supply
when price is higher than equilibrium, supply is greater than demand so price needs to fall
Excess demand
when price is lower than equilibrium, supply is less than demand, so price needs to increase
Market failure
when the allocation of resources in a free market is not efficient
Public goods market failure
due to no public sector, essential services that do not get profits will not be provided in the economy and the country falls into disrepair (e.g. street lighting, roads, defence), and because of their nature the private sector is unlikely to be willing and able to provide public goods, the government therefore provides them for collective consumption and finances them through general taxation
Inequality market failure
wide differences in income and wealth between different groups within our economy leads to a wide gap in living standards between affluent households and those experiencing poverty, society may come to the view that too much inequality is unacceptable or undesirable, the government may decide to intervene to reduce inequality through changes to the tax and benefits system and also specific policies such as the national minimum wage
Externalities market failure
third party (or spill-over) effects arising from the production and/or consumption of goods and services for which no appropriate compensation is paid (e.g. a chemical factory emits wastage as a by-product into nearby rivers and into the atmosphere), creating negative externalities which impose higher social costs on other firms and consumers (e.g. clean up costs and health costs), the producer is only interested in making profit and thus will not take negative externalities into account, this action is an example of market failure
Government intervention market failure
pollution taxes to correct for externalities, taxation of monopoly profits, regulation of oligopolies/cartel behaviour, direct provision of public goods (defence), policies to introduce competition into markets (de-regulation), price controls for the recently privatised utilities
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