Function of The Price Mechanism - SIR

• Adam Smith - Invisible hand of the market
• Main functions of the Price Mechanism:

  • Allocate
  • Rationing
  • signalling
  • incentives
• Allocate -> allocating scarce resources among competing uses
• Rationing -> prices serve to ration scarce resources when market demand outstrips supply, if supply falls, and demand stays high, prices will rise to reduce demand
• Signaling -> prices adjust to demonstrate where resources are required and where they are not
• Incentives -> when the demand of a product rises, price rises, so quantity supplied increases
• The rationing function - when there is a shortage of a product, prices will rise and deter some consumers from buying the product

  
• The incentive function - higher prices encourage firms to produce more of that good or service
• Price mechanism = the way in which prices change to allocate goods and services efficiently between different users.
• The signalling function - cheanges in price provided information toboth producers and consumers ablut changes inmarket conditions
• The price index of UK footwear has fallen. This is due to increase global competition and falling input costs have increases market supply. In 2003, the CPI was 107 and in 2014, the CPI was 84.