PM P1: Role of Price Mechanism in Allocation of Resources in a Free Market

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4 Terms

1
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How does the Price Mechanism achieve Allocative Efficiency?

Achieves allocative efficiency by clearing shortages or surpluses through signalling (in absence of market failures).

2
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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.

3
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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.

4
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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.