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Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
1
Chapter 4
Allocation and the Market System
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
2
Learning Objectives
• Show how the market system determines what is to be produced.
• Examine how markets organise production.
• Discuss how markets distribute output.• Illustrate how markets accommodate
change.• Evaluate the operation of the market
economy.
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
3
Operation of the Market System
What is to be produced?
• Determined by competing buyers and sellers in both resource and product markets
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
4
Types and Quantities of Goods Produced
• Determined by the motives of firms to seek profits and avoid losses
• Firms will produce those goods and services that result in a profit
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
5
Profits (or Losses)
Determined by:
• Total revenue received by the firm from the sale of a product; and
• Total costs of producing that product
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
6
Economic Costs and Profits
• Economic costs: Payments made to obtain and retain the services of a resource, including land, labour, capital and entrepreneurial ability
• Normal profits: the minimum cost payment that is just sufficient to obtain and retain contribution by the entrepreneur
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
7
Economic Profit
• The total revenue of a firm less all its economic costs (including the cost of entrepreneurial ability)
• Also known as pure profit
• Zero economic profit = normal profit
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
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Profits and Expanding Industries
• Economic profits induce new firms to enter the industry, resulting in an expanding industry
• Entry of new firms increases the market supply of the product, resulting in lower prices until normal profits are restored
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
9
Losses and Declining Industries
• Below-normal profit induces firms to leave the industry, resulting in a declining industry
• As firms exit, supply decreases, and prices increase until normal profits are restored
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
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Dollar Votes• Consumer demand determines the
types and quantities of product produced
• Ultimately determines whether industries contract or expand
• Consumers register their ‘dollar votes’ through the demand side of the product market
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
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Derived Demand
• The demand for resources is a derived demand
• Demand for resources is ultimately determined by the demand for the goods and services that the resources help produce
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
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Organising Production
• Organising production in a market economy involves:– Resource allocation among specific
industries– Choosing specific firms to be
involved in production– Deciding what technology the firm
should employ
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
13
Efficient Production
• The specific firms remaining in an industry are those employing the most efficient techniques
• Involves combining resources in the least-cost production method
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
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Least-Cost Production
• The combination of resources which results in the lowest dollar-and-cents amount of cost
• Various techniques result in the employment of varying quantities of resources and differing costs
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
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Distributing Total Output
• Willingness and ability of consumers at the existing market price
• Ability determined by income
• Willingness determined by individual preferences
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
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Accommodating Change
• Changes in consumer preferences, technology and resource supplies
• Market systems adapt through the guiding functions of prices
• Price signals generated by changes in demand
• Redirections of resources occur
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
17
Initiating Progress
• Competitive markets provide incentives for technological advances—lower production costs and economic profits
• Technological advances lead to capital accumulation
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
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Competition and Control• Competition is the mechanism of
control in a market-oriented system
• Forces business and resource suppliers to respond to the wishes of consumers
• Invisible hand: firms and resource suppliers, through competition, are guided to promote the public interest
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
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A Preliminary Evaluation of the Market System
• A case for the market system– allocative efficiency– freedom of enterprise and choice
• A case against the market system– demise of competition– unequal income distribution– market failure and government
intervention: spillovers or externalities
Copyright 2004 McGraw-Hill Australia Pty Ltd PPTs t/a Microeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia.
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Next Chapter:
Organisation of Business in Australia
