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CHAPTER 5 Prices SECTION 1: The Price System SECTION 2: Determining Prices SECTION 3: Managing Prices 1 SECTION 1 The Price System Objectives: What is the role of the price system? What are the benefits of the price system? What are the limitations of the price system? 2 SECTION 1 The Price System Role of the price system: to tell consumers how much it costs to produce or distribute a good or service to tell producers how much consumers are willing and able to pay for a product 3 SECTION 1 The Price System Benefits of the price system: 4 provides information provides incentives provides choice provides efficiency provides flexibility SECTION 1 The Price System Limitations of the price system: does not account for all production costs and benefits can be unstable 5 SECTION 2 Determining Prices Objectives: What is market equilibrium? How does the price system handle product surpluses and shortages? How do shifts in demand and supply affect market equilibrium? 6 SECTION 2 Determining Prices Market equilibrium is reached when the quantity supplied and the quantity demanded for a product are equal at the same price. 7 SECTION 2 Determining Prices How the price system handles product surpluses lowering product prices decreasing quantity supplied increasing quantity demanded 8 SECTION 2 Determining Prices How the price system handles product shortages: increasing product prices increasing quantity supplied decreasing quantity demand 9 SECTION 2 Determining Prices How shifts in demand and supply affect market equilibrium: They cause the point of market equilibrium to shift accordingly. 10 SECTION 3 Managing Prices Objectives: Why do governments sometimes set prices? What do governments try to accomplish through price floors, price ceilings, and rationing? What happens when governments manage prices? 11 SECTION 3 Managing Prices Reasons governments set prices: to keep the market functioning smoothly to avoid instability caused by dramatic price swings 12 SECTION 3 Managing Prices What governments try to accomplish by setting prices: price floors—used to try to guarantee producers a certain level of income price ceilings—used to try to maintain affordable costs for goods and services rationing—used to avoid shortages and to ensure reasonable prices for goods when supplies are low 13 SECTION 3 Managing Prices What happens when governments manage prices: creates imbalances between supply and demand prevents markets from reaching equilibrium can create black markets 14 CHAPTER 5 Wrap-Up 1. Describe the limitations of the price system. 2. Explain the role of the price system. Be sure to include how the price system encourages market equilibrium. 3. How can a shift in demand influence a market’s equilibrium point? 4. Why might a government establish a price floor on one good or service and a price ceiling on another? 5. Why might a government begin rationing items in the market? 15