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The Role of Prices in the Free Market Prices in the Free Market • In the free market prices are a tool for distributing • They are nearly always the most • Prices help move land, labor and capital • Prices move finished goods into the The Advantages of Prices • Prices provide a language for buyers and sellers • Price as incentive: – Buyers and sellers look at prices to – Prices communicate to both buyers and sellers – Producers respond not only to the demand, but also to the The Advantages of Prices • Prices as signals – High price of a good tells producers that if the demand for a good at a – Low price of a good tells producers that the good is being overproduced – High price of a good tells consumers to think – Low price of a good tells consumers to buy The Advantages of Prices • Flexibility – Prices are much more flexible than output levels – Prices can easily be increased to solve a problem of excess demand and they can be • Supply shock a sudden – Creates a problem of excess demand because suppliers – Resolved by – The people who have enough money remain in the market at the new price and A Wide Choice of Goods • Prices give suppliers a way to allow • Prices provide an easy way for you to • Prices allow producers to target the audience they want with the • Black market a market Efficient Resource Allocation • All the advantages of a free market allow • This means that land, labor, and capital will be used for • A market system, with its freely changing prices, ensures that resources go to • A price-based system ensures that resource use will adjust to Market Problems • Problem 1 imperfect competition: can affect prices, and higher prices can affect consumer decisions – If only one producer is selling the good, this producer • Problem 2 spillover costs: costs of production that affect people – Since producers do not have to pay spillover costs, their total costs seem low, and they will produce more than equilibrium quantity of a good. Problem 3 imperfect information: if you don’t have enough information about a product,