1. The Allocation Of Resources In Competitive Markets

2. Content The determinants of demand for goods and services
Price, income and cross elasticity's of demand
The determinants of the supply of goods and services
Price elasticity of supply
The determination of market equilibrium prices
Cause of changes in equilibrium price
Demand and supply analysis in specific markets
Interrelationships between markets
How markets and prices allocate resources

3. The determinants of demand for goods and services
The demand curve shows the relationship between price and quantity demanded
Generally the higher the price of a product the smaller the quantity demanded
As price decreases quantity demanded increases
Therefore the demand curve has a negative slope

4. Demand Curve
The demand curve shows an inverse relationship between price and quantity demanded
If price changes then you would move along the demand curve to calculate any change in quantity demanded

5. Shifts in the demand curve
Changes the following factors causes a shift in the demand curve:
Prices of other goods – either substitutes or compliments
Incomes
Tastes and fashions
Consumer expectations
Advertising
Population level and structure
These factors can enable the demand curve to shift to the:
Left (less demanded at each price)
Right (more demanded at each price)

6. Shifts in the demand curve
These graphs show what would happen if
Demand increased
Demand decreased

7. Price elasticity of demand
Elasticity looks at the responsiveness of one variable to a change in another
Price elasticity:
The responsiveness of demand to a change in price
%change in quantity demanded / % change in price
If PED > 1 it is elastic (flat demand curve)
If PED < 1 it is inelastic (steep demand curve)

8. Price elasticity of demand, revenue and profit
If a product is elastic to increase revenue you reduce price
The reduction in price increases quantity demanded by a greater amount therefore increasing revenue
If a product is inelastic to increase revenue you increase price
The increase in price reduces quantity demanded by a smaller amount therefore increasing revenue
If costs stay the same then these actions will result in greater levels of profit for the firm

9. Income elasticity of demand
Measures the responsiveness of demand to changes in income
% change in quantity demanded / % change in income
YED > 0 (positive sign) = Normal goods – as income rises demand rises
YED < 0 (negative sign) = Inferior goods – as income rises demand falls

10. Cross elasticity of demand
Measures the responsiveness of demand of one good to changes in the price of another good
% change in quantity of good 1 / % change in price of good 2
Cross elasticity < 0 (negative sign) The goods are compliments
Cross elasticity < 0 (positive sign) The goods are substitutes

11. Factors that influence elasticity of demand
Number of substitutes – the greater the number of substitutes the more elastic a product is
The % of income spent on the product – the smaller the % the more inelastic the good
The time period – the longer this is the more elastic the good is
Luxury or necessity – Luxuries tend to be more elastic and necessities more inelastic

12. The determinants of the supply of goods and services
The supply curve shows the relationship between price and quantity demanded
The supply curve generally slopes upwards at higher prices more is supplied
There is a positive relationship between price and quantity supplied
As price increases revenues would increase for the supplier
If revenues increase then profits would be likely to increase encouraging producers to increase production levels

13. The Supply Curve
If price changes the quantity demanded will change – this will indicate a movement along the supply curve

14. Determinants of Supply
The following factors influence supply:
Profitability of other goods in production
Technology
Costs of production
Natural shocks
Social factors
Expectations of producers
Changes to any of these factors will cause the supply curve to shift:
Supply curve shifts to the left – less will be supplied at every price
Supply curve shifts to the right – more will be supplied at every price

15. Shifts in the supply curve
These graphs show the consequences of:
An increase in supply
A decrease in supply

16. Price elasticity of supply
This measures the responsiveness of supply to changes in price
% change in quantity supplied / % change in price
If PES > 1 it is elastic – this means it is easy for suppliers to respond quickly to price changes
If PES < 1 it is inelastic – this means it is hard for suppliers to respond quickly to changes in price

17. Factors influencing Price Elasticity of Supply
Spare capacity – if there is lots of spare capacity the business should be able to increase output quite quickly therefore supply will be elastic
Ease of factor substitution -If capital and labour resources can easily be switched then the production process is more flexible and elasticity of supply for a product is likely to be higher
Stocks – If stock levels are high then supply will be elastic
Time period – the longer the time period the more likely supply is likely to elastic as the firm has time to alter production levels

18. The determination of market equilibrium prices
The interaction of the demand and supply curves sets the equilibrium price in a market
The equilibrium point is where the supply and demand curves cross
Equilibrium price is p*
Equilibrium quantity is q*
Unless the demand or supply curve shift p* and q* stay the same

19. Cause of changes in equilibrium price
Shifts in the demand or supply curve will cause the equilibrium price to change
The extent to which the price changes is dependent on the elasticity of demand / supply

20. Demand and supply analysis in specific markets
Demand and supply may work differently in different markets
Governments may pay subsidies to producers in certain markets
These reduce producers costs of production and encourage them to produce more therefore the firms supply curve shifts to the right
Subsidies are often common in agricultural markets, where industries are struggling e.g. shipbuilding and where goods are perceived as merit goods

21. Consumer surplus
A consumer surplus arises is where consumers are willing to pay more for a good / service than they actually do
As the government provides health care free on the NHS this represents a consumer surplus

22. Different Markets
In commodity markets such as coffee and oil demand and supply interact to create an equilibrium price
In the housing market prices have risen as demand has outstripped supply causing a shift in the demand curve

23. Interrelationships Between Markets
Changes in one market are likely to influence other markets
Composite demand is the demand for a product that has more than one use
Derived demand is where demand for one good or service is due to demand of another
This may be due to the production process
E.g. demand for trainers will increase demand for rubber

24. Joint demand
Joint demand is where the demand of one product is tied to the demand of another
Joint demand occurs when products are complements in production or consumption
Because the products are used together the demand for one good is tied to the demand for the other good
E.g. tea and milk – if there is no milk demand for tea would decline

25. How markets and prices allocate resources
Markets allocate resources as they allow all consumers who are willing and able to purchase goods at a set price to receive them
Prices allow a good to be rationed – if the product is in short supply the price of the good will increase so only those willing to pay the highest prices will be allocated the resources

26. How markets and prices allocate resources
Incentives are any factor (financial or non-financial) that provide a motive for a course of action
Incentive pricing aims to encourage consumers to purchase a particular product increasing its demand
Prices can also be used as a signaling tool
Often high prices are seen to reflect high quality

27. The effectiveness of the market system
The allocation of resources in the market system is not always efficient
Governments may use taxes and subsidies to try and correct market failure
The market system only allocates resources to those who are able to pay

28. Summary
Demand for goods and services is determined by price, tastes and fashions, income etc
The demand curve has a negative slope more is demanded at lower prices
Elasticity measures the responsiveness of one variable to a change in another
PED looks at the responsiveness of quantity demanded to a change in price
If a product is elastic quantity demanded is more responsive to a change in price
The supply curve has a positive slope as price increases amount supplied also increases
Price elasticity of supply looks at the responsiveness of quantity supplied to a change in price
Where the supply curve and demand curve interact is market equilibrium
Market equilibrium price changes if the demand or supply curves shift
The extent of the change in market equilibrium price is dependent on elasticity's
Demand and supply analysis can be used in many markets
There are Interrelationships between demand and supply in different markets this is due to composite demand, derived demand and joint demand
Markets allocate resources to those that are able to pay at a certain price