Economic Terms

How the interaction of demand and supply determine the price and quantities of the goods that get produced.

This price mechanism has three individual functions that it performs:

• The first is the rationing function which enables prices to change in order to curb or encourage demand in order to cope with limited or excess supply. This often happens for the demand for sporting event tickets.
• Then there is the signalling function which means that prices are there to inform economic agents about market fluctuations i.e. if the price of a good is high this signals to producers that this good is in high demand and therefore they should produce more.
• Finally, prices have an incentive function which provides agents with the incentives to change their behaviour i.e. firms are incentivised to produce more goods if the price is high due to higher margins and profit incentives.

Below is a brief summary of these functions of the price mechanism.

When firms in a market do not have sufficient market power to be able to influence the market price and as a result charge the optimal price in order to maximise profits. All firms in a perfectly competitive market are classified as price takers due to size of the market and close substitutes available to each firm's product.

Below is a diagram to illustrate price takers in a perfectly competitive market. These firms have to accept the market price as given due to the fact that they are in a market with hundreds of firms all producing a homogeneous product and therefore no firm has sufficient market power or control to set their own prices.

Occur where firms compete with each other to charge lower prices and thereby force the market price down. This has occured most recently in the UK Supermarket Industry with discount stores such as Aldi and Lidl relentlessly slashing prices of popular products below that of the Big 4 supermarkets.

Below is the logical chain of reasoning to emphasise the main features of a price war.

Raw materials that are either extracted or farmed from land and the sea.

The individual that authorises an agent to act on their behalf in personal and business transactions.

Scenarios in which economic outcomes are distorted because economic agents (principal) rely on the services of and are influenced by an agent that may have different objectives/incentives.

The most common example of this is the differing objectives between shareholders and managers. Shareholders wish to maximise profits and managers have internal goals relating to self-interest, but due to asymmetrical information it is difficult for shareholders to detect this.

Below is a breakdown of this type of problem relating to shareholders and managers. In this case the manager has three main objectives to achieve alongside maximising return for shareholders. For instance it may be that managers try to help the firm acquire as much market share as possible in order to make the firm grow and expand to meet those customers. This is becaue firms that have exponentially grown are often the firms that are most impressive from a manager's performance persepctive and therefore it will put the manager's value higher from not just within the company but from external companies. Therefore they may decide to reinvest majority of the profits the company makes to help fuel expansion rather than paying higher dividends to shareholders.

A situation analysed using game theory that shows why two rational individuals might not cooperate, despite it being in their best interests to do so.The Nash Equilibrium in this game will always be for both players to betray each other despite the payoffs for both players being higher if they were willing to cooperate. This game is based on the idea of two prisoners who have committed a crime with an adverse feeling towards years in prison.

Below is a payoff matrix to illustrate the equilibrium concept of the game.

The costs or benefits experienced by buyers and sellers that are reflected in the market equilibrium position.

Private sector debt is the stock of liabilities held by the sectors non-financial corporations. This is comprised of personal loans, personal mortgages, business debts, and debts of the financial sector.

 

 

 

Is an investment company that makes investments in the equity of companies with funding raised by retail and institutional investors.