Lecture Notes: Applying Functions of the Price Mechanism to Demand and Supply Curve Shifts

Introduction

• Objective of the video: Apply the functions of the price mechanism to scenarios where demand and supply curves shift.
• Previous learning: Understand the functions of the price mechanism.

Demand Curve Shifting to the Right

• Factors causing rightward shift: Non-price factors.
• Initial Conditions:
  • Demand curve shifts right at initial price (P1).
  • Disequilibrium: Demand at QD is greater than Supply at Q1, creating excess demand (shortage).

Correction Mechanism

• Market observation:
  • Firms observe large queues and long waiting lists.
  • Consumer competition and bidding up of prices due to excess demand.
• Impact on prices:
  • Prices rise from P1 to P2 (simplified as a single shift for ease).
• Functions of the price mechanism (RC):
  • Signaling: Higher prices signal excess demand to consumers and producers.
  • Incentive: Encourages firms to increase output for higher profits.
    • Expansion along the supply curve.
    • Can involve new firms entering or existing firms expanding output.
  • Rationing: Higher prices discourage consumption, contracting the demand curve.
• Outcome: Market achieves new equilibrium at Q2 with allocative efficiency.

Supply Curve Shifting to the Right

• Factors causing rightward shift: Non-price factors (pints WC).
• Initial Conditions:
  • Supply curve shifts right at initial price (P1).
  • Disequilibrium: Supply at Qs is greater than Demand at Q1, creating excess supply (surplus).

Correction Mechanism

• Market observation:
  • Firms observe surplus stock and empty tables in restaurants.
• Impact on prices:
  • Prices fall from P1 to P2 (simplified as a single shift for ease).
• Functions of the price mechanism (RC):
  • Signaling: Lower prices signal excess supply to consumers and producers.
  • Incentive: Encourages firms to reduce output and liquidate stocks for profit.
    • Contraction along the supply curve.
    • Involves firms leaving the market or reducing capacity.
  • Rationing: Lower prices encourage more demand, extending the demand curve.
• Outcome: Market achieves new equilibrium at Q2 with allocative efficiency.

Conclusion

• Summary: Demonstrated how price mechanism functions in adjusting equilibrium after demand and supply shifts.
• Exercise: Consider scenarios of demand and supply shifting left as exercises.
• Closing Remarks: Encouragement to use the video and previous learning for better understanding.
• Next Steps: Looking forward to exploring more in the next video.