Explain how markets function and discuss what can cause markets to fail. Use examples from B200 and from your own region, and use diagrams to illustrate your discussion, (In economics, a market is a social structure for exchange of rights, which enables people, firms and products to be evaluated and priced. There are two roles in markets, buyers and sellers. The definition implies that at least three actors are needed for a market to exist; at least one actor, on the one side of the market, who is aware of at least two actors on the other side whose offers can be evaluated in relation to each other. A market allows buyers and sellers to discover information and carry out a voluntary exchange of goods or services. It is one of the two key institutions for organizing trade, along with the right to own property. In everyday usage, the word "market" may also refer to the location where goods are traded, or in other words, the marketplace).(www.en.wikipedia.org/wiki/market) 26-12-2007 (8:00) The function of a market requires, at a minimum, that both parties expect to become better off as a result of the transaction. Markets generally rely on price adjustments to provide information to parties engaging in a transaction, so that each may accurately gauge the subsequent change of their welfare. In less sophisticated markets, such as those involving barter, individual buyers and sellers must engage in a more lengthy process of haggling in order to gain the same information. Markets are efficient when the price of a good or service attracts exactly as much demand as the market can currently supply. The chief function of a market, then, is to adjust prices to accommodate fluctuations in supply and demand in order to achieve allocative efficiency.An economic system in which goods and services are exchanged by the mean of makets (i.e. the decision of exchange regarding the prices and the quantity are decentralized - taken by the agents involved in the exchange themselves) is called a market economy. An alternative economic system in which non-partcipants to the exchange (often government mandates) determine prices are called planned economies or command economies. The attempt to combine socialist ideals with the incentive system of a market is known as market socialism.(www.en.wikipedia.org/wiki/market) 26-12-2007 (8:00) Schumpeter's model of dynamic competition emphasizes competition over innovation in both products and processes and the processes of creative destruction is that in the processes of competition over in innovations, firms innovate or go bust, also innovation often depend on advances in technological knowledge. on crucial source of cost reduction that Schumpeter emphasizes is that arising from technological advances' this means that costs are reduced because advances in technological knowledge enable new production processes to be used that are cheaper than the old, these cost reduction are often referred to as example of dynamic efficiency, such as the motor car, the new technology of the internal combustion engine, combined with the new assembly line method of production, enabled the mass production of relatively cheap cars another source of cost reductions are economies of sole which relate to the scale of operations of the firm. If the fixed costs are spread over a larger Out put, then the average cost per unit produced will fall, for example adoubling of out put may not require a doubling of the factory size and a doubling of all machinery costs.(FROM B200 PAGE 120-121) Monopolies in the market which Schumpeter's emphasis on the importance of dynamic competition over along period of time maybe consistent with elements of monopoly in short period, and he argued that we need to take a longer view of the time period necessary for competitive forces to work them selves out in other side .Governments poleis often include attempt to regulate mono poleis, these policies include the mono poleis and mergers commission, nationalization and regulation, many governments are obliged to be concerned with shorter horizons than Schumpeter, and have introduced legislation in an attempt to control the growth of monopolies and cartel agreements, this kind of government concern would be an example of a situation where the free competitive market needs the intervention of the state in order to protect it and maintain its free Dom. Monopolies here are considered harmful because they have less incentive to be efficient in the absence of her effective rivals. They may have higher costs, and prices to the consumer are higher than they need be. In addition we have natural monopolies' which is an industry has such large economies of scale that the market cannot support more than one supplier, as this single firm can under cut all it's rivals. Net work industries the telephone service or the railway are example of natural monopolies, and in the 1980s,regulation and private owner ship replaced nationalization for natural monopolies such as British telecom and British cast. On the ether side from competitive market and equilibrium in Schumpeter's model, innovation were the hall mark of healthy competitive activity in the neoclassical model of competitive equilibrium it is the determination of price that registers the extent to which market is competitive. According to this model of competition prices are determined in personally in the market and this secure equality between these demanding the good and those supplying the good. But from the balancing of demand and supply the neo classical model of competitive equilibrium examines the influences on the price of a commodity by grouping them in to two broad categories .On the side of supply are included all those influences on the production of commodity such as the availability of right kind of labor, raw material, and also the technology in use at that time. On the side of demand are induced all these influences which effect consumers demand for a commodity such as income lifestyle. Also the neo classical view from equilibrium price has been enormously influential and has been root of many discussions about the effectiveness of competitive markets and the strength of the neoclassical model is that it shows the equilibrium properties of competitive market. and the equilibrium price occur When a product exchange occurs, the agreed? Upon price is called an "equilibrium" price, or a "market clearing" price. Graphically, this price occurs at the intersection of demand and supply as presented in Figure 1. In Figure 1, both buyers and sellers are willing to exchange the quantity Q at the price P. At this point, supply and demand are in balance. Price determination depends equally on demand and supply. It is truly a balance of the two market components. To see why the balance must occur, examine what happens when there is no balance-for example when market price is below that is shown as P in Figure 1. At any price below P, the quantity demanded is greater than the quantity supplied. In such a situation, consumers would be clamoring for a product that producers would not be willing to supply. A shortage would exist. In this event, consumers would choose to pay a higher price in order to get the product they want, while producers would be encouraged by a higher price to bring more of the product onto the market. The end result is a rise in price, to P, where supply and demand are in balance. Similarly, if a price above P were chosen arbitrarily, the market would be in surplus ? too much supply relative to demand. If that were to happen, producers would be willing to take a lower price in order to sell - consumers must be induced by lower prices to increase their purchases. Only when the price falls will balance be restored. A market price is not necessarily a fair price. For example, it does not guarantee total satisfaction on the part of buyer and seller. A market price is merely an outcome. Typically some assumptions about the behaviors of buyers and sellers are made which add a sense of reason to a market price. For example, buyers are expected to be self? interested and, although they may not have perfect knowledge, at least they will try to look out for their own interests. Meanwhile, sellers are considered to be profit maximizes. This assumption limits their willingness to sell to a price range, high to low, where they can stay in business. Change in Equilibrium Price When either demand or supply shifts, the equilibrium price will change. Look at the modules on Demand and Supply for a discussion of why either of these market components may move. Some examples are given below to show what happens to price when supply or demand shifts occur. Example 1: Unusually good weather increases output. When a bumper crop develops, supply shifts outward and downward, shown as S2 in Figure 2 ? more product is available over the full range of prices. With no immediate change in consumers' willingness to buy crops, there is a movement along the demand curve to a new equilibrium. Consumers will buy more but only at a lower price. How much the price must fall to induce consumers to purchase the greater supply depends upon the elasticity of demand. Market elasticity is discussed in Understanding Demand Factors For Agricultural Products. In Figure 2, price falls from P1 to P2 if a bumper crop is produced. If the demand curve in this example were more vertical (more inelastic), the price-quality adjustments needed to bring about a new equilibrium between demand and the new supply would be different. To see how elasticity of demand affects the size of adjustment in prices and quantities when supply shifts, try drawing the demand curve (or line) with a slope more vertical than that depicted in Figure 2. Then compare the size of price-quality changes in this with the first situation. With the same shift in supply, equilibrium change in price is larger when demand is inelastic than when demand is more elastic. The opposite is true for quantity. A larger change in quantity will occur when demand is elastic compared with the quantity change required when demand is inelastic. Example 2: Consumers lower their preference for beef. A decline in the preference for beef is one of the factors that could shift the demand curve inward or to the left, as seen in Figure 3. With no immediate change in supply, the effect on price comes from a movement along the supply curve. A shift inward of demand causes price to fall and also the quantity exchanged to fall. The amount of change in price and quantity, from one equilibrium to another, is dependent upon the elasticity of supply. Imagine that supply is almost fixed over the time period being considered. That is, draw a more vertical supply curve for this shift in demand. When demand shifts from D1 to D2 on a move vertical supply curve (inelastic supply) almost all the adjustment to a new equilibrium takes place in the change in price. The main issue that the competitive equilibrium model ignores, Hayek argues is the fact that individuals never have complete information when responding to economic changes, Hayek argues that equilibrium economics is largely irrelevant compared with the processes of competitive price adjustment. From side of prices and information, the price mechanism is not a cost lees way of transmitting information and some times prices do not convey all the social costs and social benefits arising from an economic activity; but externalities are them selves extremely to quantify, so environmental pollution and the greenhouse effect are example of externalities<as these are social costs arising from economic activities that are not reflected in market prices. The term market failure describes the failure of the market economy to achieve an efficient allocation of resources and there are several important under which markets fail to allocate resources with reasonable efficiency such as common property resources which one that is rivalries but non –excludable, no one has an exclusive property right to it, and it can be used by any one ,and the socially optimal exploitation of a common property resource occurs when the marginal cost of the last the value of the marginal addition to total out put ,the second reason of market failure is public goods where consumption cannot be restricted to those who are willing to pay for them. the third reason is externalities which are costs or benefits of a transaction that are incurred or received be other members of the society but not taken into account by the parties to the transaction ,they are also called third-party effects and some times neighborhood effects, because parties other than the primary participant in the transportation are effected. Externalities create a divergence between the private benefits and costs of economic activity and the social benefits and cost. Privet costs are parties directly involved in some economic activity .when a good is produced, the private costs are those borne by the producing firm. Social costs are the costs incurred by the whole society. These are the private costs plus any costs borne by third parties .private benefits are the benefits received by those involved in the activity. In the case of a marketed good these are the utilities obtained by buyers. Social benefits are the benefits to the whole society. They are the private benefits plus any benefit to the third parties, and the fourth reason is that Asymmetric information, markets work best when every one is well informed. people cannot make maximizing decision if they are poorly informed about the things they are buying or selling .And there are policies for environmental regulation such as (in the united kingdom the environmental protection act of 1989 lays down minimum standards for all emission from thousand of chemical, waste incineration, and oil –refining factories. HM inspectorate of pollution, the costs of which are paid for by the factory owners themselves, monitors performance. The release of genetically engineered bacteria and viruses is also regulated. Strict regulations are imposed on-the-spot fines of up to $1,000. the (sixth)and last item for market failure concerns market power, the goal of controlling market power provides rationales both for competition policy and for economic regulation. Competition can be encouraged and monopoly practices discouraged by influencing either the market structure or the market behavior of individual firms. (FROM B200 PAGE (150-158) Government failure (or non-market failure) is the public sector analogy to market failure and occurs when a government intervention causes a more inefficient allocation of goods and resources than would occur without that intervention. Just as with market failures, there are many different kinds of government failures. However, while market failure has been widely studied, government failure has only recently come into common usage as the lenses of Public choice theory and New Institutional Economics (NIE) or Transaction Cost Economics (TCE) have begun to explore the problems. Just as a market failure is not a failure to bring a particular or favored solution into existence at desired prices, but is rather a problem which prevents the market from operating efficiently, a government failure is not a failure of the government to bring about a particular solution, but is rather a systemic problem which prevents an efficient government solution to a problem. The problem to be solved need not be a market failure; sometimes, some voters may prefer a governmental solution even when a market solution is possible. http://en.wikipedia.org/wiki/Government_failure (28-12-2007/ 11:00 PM) in my own words I think that we must discover anew tecnolegy to make the market more comfortable in all his way.
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