1. Chapter 6 Prices and Decision Making
Chapter 6 ties together students’ previous learning on economic markets, demand, and supply.
Section 1 discusses price as signals to producers and consumers.
Section 2 explains how equilibrium prices are determined, and describes shortages and surpluses.
Section 3 describes how prices operate in the economy as a whole.
Chapter 6 Prices and Decision Making
Economic Standards being addressed are: E.2.2.2, E1.3.1, E1.3.2, E1.3.3, E1.4.4, E1.4.5, E2.1.4, E2.1.9, E2.2.2, E2.2.3, E3.2.2, and E3.2.5

2. Why It Matters: Why is it that famous athletes and entertainers make millions of dollars each year? Imagine that you are one of these athletes or entertainers and will be interviewed on a major television program. Knowing that the interviewer will ask you why you make so much money, prepare a list of 6 reasons that explain why you are worth your salary. “Because I’m that good” doesn’t count! .

3. Prices as Signal Objectives
Explain how prices act as signals to both producers and consumers.
Describe the advantages of using prices as a way to allocate to (set apart for a particular purpose) economic products.
Understand the difficulty of using rationing and other non-produce criteria to allocate scarce goods and services.
Economic Signals
Signal- anything that serves to indicate, warn, direct, command, or the like, as a light, a gesture, an act, etc.: a traffic signal; a signal to leave
In economics we look at prices
Prices- the monetary value of a product as established by supply and demand
Gives information to both buyers and sellers
Low prices signal buyers to buy more and producers to product less
High prices signal buyers to buy less and producers to produce more
Positive GNP signals a growing economy
High housing, food and energy prices signals a recession

4. C. Advantages of Price
Prices serve to allocate (to set apart for a particular purpose) resources by helping producers and consumers decide how to answer the three basic questions of WHAT, HOW, and FOR WHOM to produce
In a competitive market, the advantages of prices are:
Neutral
Prices are result of competition between buyers and sellers, they represent a compromises that both sides can live with
Flexible
Unforeseen events (natural disasters, wars, life…) affect prices
Buyers and sellers react to new price levels and adjust consumption and production
Life goes back to normal and the market or prices goes back to normal
Major innovations enter the economy
Computers- began being very expensive, consumers demanded that they be cheaper and the market adjusted
Familiar and easy to understand
People know how it works, so there is no ambiguity (uncertainty or doubt) over prices
If something costs $5.99, then it costs $5.99
Have no administration cost
Prices are usually found in the market place without interference from bureaucrats, committees, laws or other governmental involvement
an official who works by fixed routine without exercising intelligent judgment
New innovations enter the economy without the involvement of government

5. In what way do prices perform the allocation function
In what way do prices perform the allocation function? People make purchasing decisions based on prices; this results in the allocation of goods and services

6. Allocations Without Prices
Command Economy
An economic system characterized by a central authority that makes most of the major economic decisions
The central government serve to allocate (to set apart for a particular purpose) resources by telling producers and consumers WHAT, HOW, and FOR WHOM to produce and consequence buy
Rationing- a system under which a government agency decides everyone’s “fair” share
People are given ration coupons that entitles the holder to receive a specified amount of product
Problems with rationing
Everyone feels that their share is too small
The government must spend an enormous amount of their resources on overseeing, administrating, and policing the rationing system
Diminishes incentive to produce
Would you work harder than your colleague if you were going to receive the same ration as them?
Wartime
The U.S. government has used rationing during wartime, but the problems are the same

7. Prices as a System
Prices allocate resources between markets
If prices go up or down in one market, producers shift their resourced accordingly in their market
Due to higher gas prices, the U.S. automobile industry had to shift its SUV production to some other fuel efficient car which led to plants closing and the automobile companies laying off workers. Due to the automobile industry not producing so many cars, the market that had the contract to move the cars from the factory to the dealerships had to shift its resources and cut its fleet and personnel. The unemployed worker (automobile and trucking personnel) keep their children at home because there is no need or resources (money) to take their child to daycare (market). In turn, the daycare needs to lay people off because they lose children and don’t need all of their employees.
Prices work as a system- part of an informational network- that links all the markets together (interdependent)

8. Assignment: Cookie Sales Part 1: You will be organized into groups and assigned a type of cookie. With the information that I give you and your own research, you will find out how much it would cost to produce four dozen cookies. Include all ingredients plus the cost of advertisements (posters and markers) in your cost analysis. Then you will evaluate the potential demand for your cookies. (Remember what we did in Chapter 4? Everyone in your group needs to interview at least 10 people.)

9. II. The Price System at Work
The Price Adjustment Process
A Market Model
Transactions are voluntary and based on compromise between the buyers and sellers
Market Models allow us to analyze the compromise process between the buyers and sellers that create a price for all market participants
The purpose of his economic model is to analyze behaviors and predict outcomes

10. Market Demand and Supply Schedule
Take the demand schedule
Take the supply schedule
Put them together in one schedule
Market Demand and Supply Schedule
Price
Quantity Demanded
Quantity Supplied 30 13 25 1 11 20 3 9 15 6 10 5
Quantity Supplied
Price 13 30 11 25 9 20 6 15 3 10 5
Quantity Demanded
Price 30 1 25 3 20 6 15 10 5

11. The Market Demand and Supply curve
Create your demand curve
Create your supply curve
Combine them on one graph/curve

12. Equilibrium Price
The price at which the number of units produced equals the number of units sold
It is where the demand curve crosses the supply curve
Equilibrium Price?
$15
Equilibrium Quantity?
6 unites

13. Equilibrium point is? Equilibrium point is? Equilibrium point is?
Practice Time: In the space provided, list the equilibrium price and quantity.
Equilibrium point is?
Equilibrium point is?
Equilibrium point is?

14. Market Demand and Supply Schedule
Price
Quantity Demanded
Quantity Supplied
Surplus/ Shortage 30 13 ? 25 1 11 20 3 9 15 6 10 5
Surplus on Market Schedule
The quantity supplied to the market is bigger than the consumer’s demand at a given price
The quantity demanded is less than the quantity supplied at a given price
At $20, the quantity demanded is 3, while the quantity supplied is 9
9 units are sitting on the shelf and only 3 people will buy a unit at that price
The amount left over on the shelf is the surplus 13 10 6
Mathematical Formula
QS-QD= Positive Number
9 – 3 = 6
Solve for $30 and $25
13-0=13
11-1=10

15. Market Demand and Supply Schedule
Shortage on Market Schedule
Quantity demanded is greater than the quantity supplied
Quantity supplied is less than the quantity demanded
At $10, 10 units will be demanded and 3 unites will be supplied
There a 3 unites on the shelf and 10 consumers waiting to buy them
The number of consumers that did not receive one, but wanted one is the shortage
Market Demand and Supply Schedule
Price
Quantity Demanded
Quantity Supplied
Surplus/ Shortage 30 13 25 1 11 10 20 3 9 6 15 ? 5 -7
-15
Mathematical Formula
QS – QD = Negative Number
3 – 10 = -7
Solve for $5
0-15= -15

16. Market Demand and Supply Schedule
Equilibrium Price on Market Schedule
When the price is too high, surplus will force the price down and when the price is too low, shortage will force the price up
The market tends to seek a compromise or common ground where there is no surplus nor shortage at the end of the trading period
At $15, suppliers will supply 6 units and consumers will demand 6 units
There will be 6 units on the shelves and 6 consumers will purchase them
The number of units supplied equals the number that consumers demand
Market Demand and Supply Schedule
Price
Quantity Demanded
Quantity Supplied
Surplus/ Shortage 30 13 25 1 11 10 20 3 9 6 15 ? -7 5
-15
d. Mathematic Formula
QS – QD = 0
6 – 6 = 0

17. Surplus on Market Curve
Where on the graph do you believe a surplus would exist?
Why?
Surplus can also be shown graphically as any horizontal distance between the supply and demand curve above the equilibrium point
At $20, suppliers would produce 9 units and consumers would demand 3 units
Mathematical Formula
QS – QD = Positive Number
9 – 3 = 6 units

18. 7. Shortage on Market Curve
Where on the graph do you believe a shortage would exist?
Why?
Shortages can also be shown graphically as any horizontal distance between the supply and demand curve below the equilibrium point
At $10, suppliers would produce 3 units and consumers would demand 10 units
Mathematical Formula
QS – QD = Negative Number
3 – 10 = -7 units

19. The Demand Schedule and Supply Schedule
Directions: examine the Demand and Supply Schedule below for Red Wing t-shirts. Information provided for you is price and quantity demanded and supplied. You are to calculate the shortage or surplus for each. Place the number of t-shirts in the shortage/surplus column and label whether it is a surplus, shortage, or equilibrium price.
Use the graph provided below; graph the information from the Red Wings t-shirt schedule. In your graph be sure to label the following: title, all labels for axis/curves and the equilibrium price and quantity. Lightly shade in with different colors and label the area on the graph where a surplus and a shortage exist.
The Demand Schedule and Supply Schedule
for Red Wings T-shirts
Price
Quantity Demanded
Quantity Supplied
Shortage/ Surplus
$20
1990
2800
$19
2050
2750
$18
2120
2700
$17
2200
2650
$16
2290
2600
$15
2390
2550
$14
2500
$13
2620
2450
$12
2400
$11
2890
2350
$10
3040
2300
From the Red Wings t-shirts schedule,
When does a surplus exist? ____________________
When is equilibrium reached? ____________________
When does a shortage exist? ____________________

20. Governmental Regulations Number of Sellers
Explaining and Predicting Prices
Economists use their market model to explain changes in price
Price changes in relation to change in supply, change in demand, both, and elasticity
Change in Supply
It is done for the same reasons and executed using the same process as we did last chapter, but with a demand curve in the mix
Overall line shifts to the right to show an increase in supply
Overall line shifts to the left to show a decrease in supply
Reasons
Input
Productivity
Technology
Taxes and Subsidies
Expectations
Governmental Regulations
Number of Sellers

21. e. What is different?
Equilibrium Price
Equilibrium Quantity S
$35
46 units S1
$30
54 units S2
$39
40 units

22. Change in Demand
It is done for the same reasons and executed using the same process as we did before, but with a supply curve in the mix
Overall line shifts to the right to show an increase in demand
Overall line shifts to the left to show a decrease in demand
Reasons
Consumer’s Income
Consumer’s Taste
Price of Related Products
Substitute
Complement
Expectations
Number of Consumers

23. e. What’s different?
Equilibrium Price
Equilibrium Quantity D
$35
46 units D1
$37
50 units D2
$31
41 units

24. 4. Change in Supply and Demand
Combine both change in supply and change in demand
Unemployment is increasing due to a recession and companies are going out of business.
Change in Demand- Consumer Income
Change in Supply- Number of Sellers
What happen to the
equilibrium?
Equilibrium Price
Equilibrium Quantity
D and S
$35
46 units
D1 and S 1
35 units

25. Practice Time: Fill in the blanks
When do you have a change in quantity supplied
When there is a change in price
What are the seven reasons one can have a change in supply?
Cost of inputs
Productivity
Technology
Taxes and subsidies
Expectations
Governmental regulations
Number of sellers
What are the two reasons one can have a change in quantity demanded?
Income effect
Substitution effect
What are the 6 reasons for a change in demand?
Consumer’s income
Consumer’s taste
Substitute
Complement
Expectations
Number of consumers

26. Effect on price________
Directions: For each of the following items, draw a market demand and supply curve that would illustrate the change that would occur due to each situation. Also state what the reasons were for the shift for each of the demand and/or supply curve, and then tell what the resulting effect would be on prices for each situation.
Consumers tastes for a product you desire drops and simultaneously, government regulations on that supplier become more stringent.
Demand __________
Supply ___________
Effect on price________
Price

27. The Importance of Elasticity
Types of Elasticity of Demand
Elastic Demand- Decrease in price creates an increase in expenditures
Inelastic Demand- Decrease in price creates a decrease in expenditures
Unit Demand- Decrease in price has no effect on expenditures

28. b. Types of Elasticity for Supply
Elastic- Change in price causes a more than proportional change in quantity supplied
Inelastic- Change in price causes a less than proportional change in quantity supplied
Unit Elastic- Change in price causes a proportional change in quantity supplied

29. Elasticity and the Market
Whenever the market changes, elasticity of either or both curves affects the size of the price change
Elastic will have a smaller change in price
Inelastic will have a large change in price
Because we can determine the underlying factors, as wells as, the elasticity of both supply and demand, we can predict how prices are likely to change

30. Social Goals and Market Efficiency
Economic and Social Goals
In Chapter 2 we looked at seven broad economic and social goals
Economic Freedom, economic efficiency, economic equity, economic security, full employment, price stability, and economic growth
We found we all had different goals that were important to us and that there was always a opportunity cost of another goal that was associated with that goal
Government steps in to try to rectify the opportunity cost
They create laws and “guide lines” and expand their power
Economic Security
Government sets prices at “socially desirable” levels
Prices are not allowed to adjust to equilibrium price and cannot communicate accurately with buyers and sellers in the market because government is distorting the allocation of resources

31. Distorting Market Outcomes
Price Ceilings
A maximum legal price that can be charged for a product or service
A price ceiling occurs when the price is artificially held below the equilibrium price and is not allowed to rise
Rent control- the maximum rent that can be charged is set by a governmental agency
Rent is below the equilibrium price
Occasionally, price ceilings are imposed by the sellers
When the Chargers and Padres played in the playoffs, they sold about 65,000 seats and there was a demand of at least twice that many
Nothing prevented the Chargers or Padres from raising the price to whatever the market would bear.
They chose not to do so

32. 1973-1981 there was a price ceiling for gasoline
Any gas station owner charging more than this maximum price would be guilty of fraud
Assume the equilibrium price is $2.00 (I wish)
Assume that the price ceiling is set by the government at $1.50
At $1.50 per gallon, the quantity demanded is 10 million gallons per week
At $1.50 per gallon, the quantity supplied is 5 million gallons per week
There is a shortage of 5 million gallons per week

33. Price ceilings lead to shortages, and shortages create a rationing problem
Most common solution is first-come, first served
Shortages are typically associated with long lines
For apartments/housing, there could be hundreds of people looking for each apartment that becomes vacant
People could stand in line for hours or even days to be able to buy gasoline or ticket to special sporting events
Seller to choose which buyer they will sell to
Landlords often rent to preferred renters and discriminate against the handicapped, minorities, single parents, or couples with children or pets
Gasoline station owners sell gasoline to those customers who regularly have their cars repaired at that station
The Chargers, Padres, or Red Wings assure that season ticket buyers get tickets for the playoffs
Lottery- Those who pick the right numbers are allowed to buy
The Chargers used a system such as this to determine who would be able to buy some of the tickets for their Super Bowl game
In the State of Hawaii where land is very scarce , the lottery system is used for people to purchase single family dwellings
The government makes the choice of buyer
In 1970, the California government decided that those with license plates that end in an odd number could buy gasoline only on odd days of the month and people with license plates that ended in an even number could buy gasoline only on the even days of the month