PM P1: Role of Price Mechanism in Allocation of Resources in a Free Market
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4 Terms
How does the Price Mechanism achieve Allocative Efficiency?
Achieves allocative efficiency by clearing shortages or surpluses through signalling (in absence of market failures).
How does the Price Mechanism achieve Productive Efficiency?
Achieves productive efficiency in competitive markets as adjustment of factor prices acts as signal and incentive for producers to adjust production methods.
Why is Free Market Equilibrium not always desirable? (Limitations)
Efficiency achieved only under strict conditions (perfect competition, no externalities/public goods) which are unlikely in reality.
Why is Free Market Equilibrium not always desirable? (Inequity Reason)
Unable to provide a satisfactory answer to the "for whom to produce" question, leading to unfair distribution of goods based on purchasing power.
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