Chapter 6 Economics

Changes in Supply

-*Weather* is one of the main reasons for the variation in agricultural prices -The farmer never can be sure what price to expect for the crop -Even if the weather is perfect during the growing season, rain can still prevent the harvest from being gathered. The weather, then, often causes a change in supply -The result is that the supply curve is likely to shift, causing the price to go up or down -Because both demand and supply for food is inelastic, a small change in supply is enough to cause a large change in the price

Explaining and Predicting Prices

-A change in price is normally the result of a change in supply, a change in demand, or changes in both -Elasticity of demand is also important when predicting prices

Size of price change

-Affected by elasticity -The more elastic the curves, the smaller the price change, and vice versa

Problems of rationing

-Almost everyone feels his or her share is too small -Problems determining how to allocate the gas rationing coupons -Cost: Someone has to pay for printing the coupons and the salaries of the people who distribute them -Some coupons will be stolen, sold, or counterfeited and used to acquire a product intended for someone else -Rationing has a negative impact on people's incentive to work and produce -Nonprice allocation mechanisms, such as rationing, raise issues that do not occur under a price allocation system

List three problems of allocating goods and services using nonprice related methods.

-Establishing fair system of allocation -Cost of administering system -Negative impact system has on incentive to work and produce

Price ceiling

-Highest legal price that can be charged for a product -Affects the allocation of resources -Some scarce resources are shifted out of the rental market

Price floor

-Lowest legal price that can be paid for a product -Economists argue that the minimum wage increase the number of people who do not have jobs because employers hire fewer workers

Price

-Monetary value of a product as established by supply and demand -Helps us make our economic decisions

Equilibrium price

-Price where quantity supplied equals quantity demanded; price that clears the market -Whenever the price is set too high, the surplus will tend to force it down -Whenever the price is set too low, the shortage will tend to force it up -As a result, the market tends to seek its own equilibrium -When the equilibrium price is reached, it will tend to remain there because the quantity supplied is exactly equal to the quantity demanded

Prices perform the allocation function very well for the following reasons.

-Prices are *neutral* because they favor neither the producer nor the consumer. This is because prices are the result of competition between buyers and sellers. -Prices are *flexible.* Unforeseen events such as natural disasters and war affect the prices of many items. -Prices have *no cost of administration.* Competitive markets tend to find their own prices without outside help or interference

The Competitive Price Theory

-Prices of foods and many other items in your community is relatively similar from one store to the next -Advantage of competitive markets is that they allocate resources efficiently -As sellers compete to meet consumer demands, they are forced to lower the price of their goods, which encourages them to keep their costs down -Competition among buyers helps prevent prices from falling too far

Advantages of Prices

-Prices serve as a link between producers and consumers -Help decide the three basic WHAT, HOW, and FOR WHOM questions all societies face -Without prices, the economy would not run as smoothly, and decisions about allocating foods and services would have to be made some other way.

Economic model

-Set of assumptions in a table, graph, or equations used to describe or explain economic behavior -This allows us to analyze how the interaction of buyers and sellers results in a price that is agreeable to all

Surplus

-Situation where quantity supplied is greater than quantity demanded at a given price -Shows up as unsold products on suppliers' shelves, and it begins to take up space in the suppliers' warehouses -Sellers now know that their price is too high, and they know that they have to lower their price if they want to attract more buyers and dispose of the surplus -Prices tend to *drop* as a result of the surplus

Shortage

-Situation where quantity supplied is less than quantity demanded at a given price -When this happens, producers have no more products to sell, and they end the day wishing that they had charged higher prices for their products -Both the *price and the quantity supplied* will go *up* in the next trading period

Elasticity

-When a given change in supply is coupled with an inelastic demand curve, price changes *dramatically.* -When the same change in supply is coupled with a very elastic demand curve, the change in price is much smaller

Changes in Demand

-Whenever economic conditions or political instability threatens, people tend to increase their demand for a product and increase the price -Whenever the supply of a product increases dramatically, the supply of the product increases, driving the price down

Describe three causes of a price change in a market.

A change in supply, a change in demand, or a change in both

What signal does a high price send to buyers and sellers?

A high prices tells buyers that they should buy less and tells sellers that they should offer more

Nonrecourse loan

Agricultural loan that carries no penalty or further obligation if it is not repaid

Target price

Agricultural price floor set by the government for to stabilize farm incomes

Low prices

Are signals for producers to *produce less and for buyers to buy more*

Explain why shortages and surpluses are not temporary when price controls are used.

At lower prices, there is no incentive for producers to produce more, so shortages continue. At higher prices, there is no incentive to buy, so surpluses remain.

How does a change in demand affect prices?

Changes in income, tastes, and so on affect demand, and price

Market Equilibrium

Condition of price stability where the quantity demanded *equals* the quantity supplied

How does price affect decisions that consumers make?

Consumers will purchase *less* at a high price and *more* at a low price. Consumers also weigh the price against their need.

Identify two programs that have historically been used to stabilize farm incomes.

Loan supports and deficiency payments

Minimum wage

Lowest legal wage that can be paid to most workers

List the advantages of using prices to distribute economic products

Neutrality, flexibility, lack of administrative costs, and familiarity.

Rationing coupon

Permit allowing holder to receive a given amount of a rationed product

Describe four advantages of using prices as an allocating mechanism.

Prices are *neutral,* favoring neither producer nor consumer, and *flexible,* allowing the market economy to accommodate change. Price have *no administrative costs* and are *efficient* because they are understood by all.

Describe how prices are determined in a competitive market

Prices are adjusted through competition between buyers and sellers

*Price Floor* Would small businesses be more affected by a change in the minimum wage than large businesses?

Salaries represent a larger percentage of costs for small businesses

Explain the role of shortages and surpluses in competitive markets.

Shortage-the quantity demanded is greater than the quantity supplied at a given price, and prices will go up Surplus-The quantity supplied is greater than the quantity demanded, and prices will go down

Describe two effects of having a fixed price other than the equilibrium price forced on a market

Shortages result if prices are set *below* equilibrium. Surpluses result if prices are *set above* it.

The price of fresh fruit over the course of a year may go up or down by as much as 100 percent. Explain the causes for these changes in terms of changes in demand, changes in supply, and the elasticity of demand for fresh fruit.

Supply is affected by seasons and by weather. Because demand tends to be stable and slightly inelastic, a change in supply can cause a large change in price

Rationing

System of allocating goods and services without prices

Explain how different cases of demand and supply elasticity are related to price changes

The more elastic, the smaller the price change; the less elastic, the larger the price change

Explain what is meant by the statement that markets "talk."

The significant movement of prices up or down reflects the judgments of all buyers and sellers in the market. Enough buyers or sellers cause significant price movements that communicate to all buyers and sellers.

Describe how markets speak collectively for buyers and sellers

The significant movements of prices, either up or down, signals the collective decisons

What do merchants usually do to sell items that are overstocked? What does this tell you about the equilibrium price for the product?

They lower the price of the items. The equilibrium price is lower than the present price.

Explain why economic models are useful

They show how markets work by helping analyze behavior and predict outcomes

Why are price ceilings often set?

To achieve equity and security

Explain the difficulties of allocating goods and services without a price system

Unfair system of allocation, the high cost of administering the system, and the negative impact of the system on incentive to work and produce.

Describe how producers and consumers react to prices.

When prices are *high,* producers *produce more,* and *consumers buy less.* When prices are *low,* producers *produce less,* and *consumers demand more.*

High prices

Are signals for producers to *producers more and for buyers to buy less*

Deficiency payment

Cash payment making up the difference between the market price and the target price

Explain how loan supports and deficiency payments work

Loan supports allow farmers to borrow against crops, Deficiency payments supply farmers with checks for the difference between the *target price* and the *actual price.*

Rebate

Partial refund of the original price of a production

Markets

-Impersonal mechanisms that bring buyers and sellers together