AS EconomicsAllocation of resources in a

competitive market

How does the market work?

• You have learnt about demand and supply, market-clearing prices, excess supply, excess demand, disequilibrium…..

• All these put together should move the market towards equilibrium

• But, how does this actually work? Can you explain it?

• 10 mins to have a go!

Today’s objectives• Review who the economic

agents are• Analyse the motives of

economic agents• Understand the role of prices

in allocating resources

and his

Who is he?What is he famous for?

• Adam Smith!• In The Wealth of Nations

(1776) Smith argued that an ‘invisible hand’ linked producers to consumers and society as a whole

• This meant that the market mechanism would work automatically to link buyers and sellers to resolve the economic problems of:

• What to produce• How to produce• Who to produce it for• He also argued that freely

operating markets would work to everyone’s advantage

3 Economic agents, who are they?

The agents and their motives

1. Consumers

2. Producers of goods and services

3. Owners of factors of production

The agents and their motives

1. ConsumersMotive is to consume as many products and services as possible for the minimum outlay (amount spent)

2. Producers of goods and servicesWho will seek to make as much profit as possible

3. Owners of factors of productionWho will sell land, labour, capital and enterprise to the highest bidder

Today’s objectives• Review who the

economic agents are

• Analyse the motives of economic agents

• Understand the role of prices in allocating resources

Smith argued….

It’s all about

competition!

Smith went on….that if each of these economic agents acted selfishly to pursue their own objectives, the market system would ensure that resources would be used to produce those goods and services that were most in demand.

and on….

The starting point of all of this is the consumer…

And then…

You have a go!

Over to you

Prices have a crucial function in this. They….

• Ration scarce resources

• Provide incentives to producers

• Signal to producers, consumers and owners of factors.

Rationing

• Consumers have unlimited wants yet resources are scarce

• If the a resource is relatively scarce and demand is high the price will be ?

• Supply will be rationed out to those consumers prepared to pay….?

• On the other hand, is a resource is relatively plentiful, and demand is low, the price of the resource will be?

• This ensures that…..?• Examples?

Incentives

• High demand leading to high prices is an incentive for firms to…?

• Why?• So therefore, low demand is

associated with low….• This would act a disincentive to….• Examples?

Signals

• Rising prices indicate to producers and consumers that…?

• This provides a signal which can help the decision making of both producers and consumers.

• Falling prices indicate to producers and consumers that…?

• Examples

Today’s objectives• Review who the

economic agents are

• Analyse the motives of economic agents

• Understand the role of prices in allocating resources

Extra hard questionWhy might the market not work?

1. Think about producers

2. Think about consumers