Chapter 4:

Demand is defined in economics as the amount of goods and services that buyers are willing and able to purchase at a range of different prices. Demand in market, as it depends on the behavior of buyers, is normally not fixed.

The functions of price in a market economy:

Prices are key ingredients in a market economy because they make things happen. If buyers want to own some items badly enough, they will pay more for them. When sellers want to sell some items badly enough, they will lower their prices.

Prices play an important role in a market economy. The role of the price to a market economy is so essential that without it a market economy cannot operate, buying and selling would not happen. A market economy such as the U.S is often described as a price-directed economy.

1.       Prices act as signals to buyers and sellers

One of the things that prices do is to carry information to buyers and sellers. When prices are low enough, they send a “buy” signal to buyers (consumers) who can now afford the things they want. When the prices are high enough, they send a “sell” signal to sellers (retailers) who can now earn a profit at the new price.

2.       Prices encourage efficient productions

Prices encourage business people to produce their goods at the lowest possible cost. The less it costs to produce an item, the more likely it is that its producers will earn a profit.

Firms that are efficient will produce more goods with fewer raw materials than firms that are inefficient. Producers strive for efficiency as a way of increasing their profits. While these efforts are in the best interests of the seller, all of us may benefit because we are provided with the things we want at lower costs.

3.       Prices determine who will receive the things produced

Finally, prices help to determine who will receive the economy’s output of goods and services. The price that a worker receives for doing a job is called a wage. The amount of this wage determines how much the worker has to spend. What the worker can buy with those wages will depend, in turn, upon  the prices of the goods and services the worker would like to own.