unit 1 – price mechanism in the economic system · unit 1 –price mechanism in the economic...

UNIT 1 – PRICE MECHANISM IN THE ECONOMIC SYSTEM

3. Price Setting in an economic system

Setting the prices of goods in a given market depends on

the demand

the supply

the aims of the manufacturers / firms

Specially in countries where price mechanism does not work properly

(all of them).

How firms set the price of goods is up to their objectives such as:

make profit

increase sales

expand the market


3.1 Principles of price setting

As you already know:

Quantity of goods and services that consumers want to buy and sellers want

to sell will adjust according to the level of changing in price.

However, the quantity bought and sold move in opposite directions:

When the price of goods and services decreases, buyers will buy more,

but seller or manufacturers will bring less good to the market.


This adjustment will cause the quantity bought and sold to be equal

at a specific level of price.

At that price:

Quantity Demanded = Quantity Produced to be Sold

This is called equilibrium.


From the table we can conclude that:

at 110 baht/kg (high price) – 220 kg of excessive supply

at 100 baht/kg – All chickens sold

at 90 baht/kg – (low price) –220 kg of excessive demand


Moreover, we can conclude that:

equilibrium price = 100 baht

equilibrium quantity = 600 kg


3.2 Adjustments and changes in prices of goods and services

Changes in the wants of consumers and suppliers related with the goods

and services in the market, can lead to changes in the equilibrium price

and the equilibrium quantity in 3 different ways:

1) The consumers’ wants change while the wants to produce goods

remain the same: this causes price and quantity of goods to change

in the same direction as the consumers’ want (demand).


That is, if the consumers’ wants increase, price and quantity of goods

will increase as follows:


In some cases, the demand for goods and services decreases. For

instance, during the summer, the wants for sweaters decrease, causing

price and quantity of sweaters to decrease as follows:


2) The consumers’ wants remain the same while the wants to

produce goods change: in the case that demand remains stable and

the supply is changed, the quantity of goods traded is changed in

the same direction as the supply, but the price is changed in the

opposite direction.


For instance, in a year when production of durian increases,

quantity traded increases but the price of durian will decrease:


In some cases, it is the opposite:


3) The consumers’ wants and the wants to produce goods change

simultaneously: in reality, demand and supply often change

together simultaneously.

For example, if the climate changes, the production of rice in the

country will decrease. Consumers expect that the price of rice will

increase and try to hoard rice.

When traders notice that supply of rice decreases and people want

to buy more, they try to hoard rice for a profit in the future.

In this case, supply of rice will decrease, but demand for rice will

increase.


3.3 Price setting in practice

Price setting has several objectives, such as:

Make profit

To increase sales

To expand the market

To maintain the price level of the goods

To use the price as an indicator

o For instance, setting the price of good quality goods higher than the low

quality ones.

1) Factors that should be considered when setting price: in

addition to considering objectives of business, there are other

factors that need to be considered:


2) Pricing method in practice: It depends on firms’ strategy, aim,

business competition, and external environment. There are

several method for pricing the products:


i. Setting price by adding additional profit to the cost of production: It is

a method that firms calculate cost of production per unit called

standard cost. Then, they will set the scale of additional profit that will

be added to the cost of production.


ii. Setting price to achieve a targeted reward from investment: It is a

method of price setting to get a reward from the investment as want,

which can be calculated as follows:


iii. Setting different prices: prices of several goods are set differently

depending on characteristics of goods and buyers:

a. To sell the same goods to each customer at different prices, such

as selling to the regular customers cheaper than irregular customers,

or selling to members cheaper than to non-members.

b. To sell to each customer at different price due to different quantity

bought; for example, retail sale is more expensive than wholesale,

such as a bottle of milk costs 10 baht, but a pack of 10 bottles of milk

costs 90 baht.

c. To sell goods to each costumer at different prices; for example, train

tickets for students are cheaper than those for adults.

unit 1 – price mechanism in the economic system · unit 1 –price mechanism in the economic...

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