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The market system
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Outline
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1. Introduction
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2. Markets versus planning
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3. The market mechanism
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4. Estimating product demand
1. Introduction
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What is economics about?
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Some important concepts
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Scarce resources
Choice
Opportunity cost
positivist & normative reasoning
marginal decision-making
equilibrium
Methods of analysis
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model building (theory)
2. Markets versus central planning
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How should resources be allocated?
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Command economy - advantages
high investment & economic growth
 low unemployment
 equal distribution of income
 environment
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Disadvantages
complex economy - information?
 Inefficient allocation of resources
 absence of incentives
 loss of liberty
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Free market
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Decentralised, self-interested behaviour.
Price acts as a signal
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resources allocated automatically
efficient allocation of resources
competition enhances consumer sovereignty
efficient firms make bigger profits
‘The pursuit of private gain results in the
social good’
Classifying economic systems
Early 1980s
Totally
planned
economy
N. Korea China
Poland
Cuba
France UK
USA
Hong
Kong
Totally
free-market
economy
N. Korea
Cuba
China
Poland France
USA
UK
China
(Hong
Kong)
Early 2000s
3. The market mechanism
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Exchange
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mediated through markets where prices play
a key role
Producer (supply)
Consumer (demand)
Competitive market
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medium of exchange
competition
full information
strong institutions & social custom
3.1 The role of price
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Firms are price-takers
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Negative relationship between price &
quantity demanded
Positive relationship between price &
quantity supplied
Excess supply (glut) - price falls
Excess demand (shortage) - price rises
3.2 Demand
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Determinants of demand
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income - level & distribution
price of substitutes & complements
demography & age structure
tastes & fashion - advertising
seasonal
The demand curve
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movements along the curve
Shifts in the demand curve
P
Effect of a shift in the demand
S curve
g
Pe1
D1
O
Q e1
Q
fig
3.3 Elasticity of demand
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(a) price elasticity of demand
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(b) income elasticity of demand
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(c) cross-price elasticity of demand
3.4 Sales revenue
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Total revenue
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Marginal revenue
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Price elasticity and total revenue
Uses of elasticity
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Government & taxes
Business - price & taxes on sales
Central Banks - competitiveness
3.5. Estimating product demand
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Methods
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a) consumer interviews - sampling,
questionnaire design, cost
b) market experiments
c) regression analysis
Regression analysis
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variable identification
obtaining data
estimation
interpretation
4. Supply
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Determinants of supply
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technological innovation - product and/or
process
change in price of factor inputs
disasters - natural & human
strikes
regulation
organisation of the firm
The supply curve
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Movements along the curve
Shifts in the supply curve
P
Effect of a shift in the supply curve
S1
g
Pe1
D
O
Q e1
fig
Q
5. The interaction of demand & supply
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Equilibrium price and quantity
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Excess demand (shortages)
Excess supply (gluts)
Impediments to the operation of
markets
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price ceiling (e.g. rents) - under-supply
minimum wage - unemployment
The determination of market equilibrium
(potatoes:
monthly)
E
e
100
Price (pence per kg)
Supply
d
D
80
Cc
60
b
40
B
a
A
20
Demand
0
0
100
200
300
400
fig
500
Quantity (tonnes: 000s)
600
700
800