economic efficieny and markets

LECTURE NOTES 2: ECONOMIC EFFICIENY AND MARKETS Markets may bring about efficient allocations of resources. Alper 1993: If resources are priced to reflect their true and complete cost to society ….market will ensure that those resources are used in an optimally efficient ways Efficiency is the primary criterion used as a measure of market performance Basic assumptions: Consumers: maximizing the level of satisfaction (utility) Producers: maximizing their profit A set of "ideal" conditions are satisfied. Perfectly competitive market • Freedom of choice based on self interest and rational behavior • the absence of external effects; • the absence of public goods/clear ownership rights • all households and firms have complete information; • all households and firms act as price takers. We will explain what these concepts mean shortly. But first, why might a competitive market economy “automatically” generate efficient outcomes? Essential ideas: For some good or service X Market demand curve = marginal benefit curve Market supply curve = marginal cost curve Price Quantity per period S D P* Q* Price Quantity per period D = MB Price Quantity per period D = MB = Marginal willingness to pay q One person’s demand q1 q2 P2 P1 Price Quantity per period D1+D2 =D = Social MB D1 D2 q1 q2 Q Adding up individual demands to get market demand The value consumers obtain P Q D Pm qm 0 Consumers obtain more value if they have more of the good P Q qm2 0 qm1 Market demand curve: negatively sloped A ship in market demand curve: • Income • Prices of related goods • Consumer preferences for the product considered • Number of relevant consumers [...]... Quantity per period P S P1 0 qm The value obtained by producers Q P S 0 qm1 qm2 Q Producers may be able to obtain more value if they sell more goods Market supply curve: positive sloped A ship in market demand curve: • Prices of resources • productivity of factors of production • Number of relevant firms S P Consumer Surplus P* Producer Surplus D Q* Q P P1 Pareto optimality: MB =MC A MC C P2 E P3 D P4 B . LECTURE NOTES 2: ECONOMIC EFFICIENY AND MARKETS Markets may bring about efficient allocations of resources. Alper 1993: If resources are priced to reflect their true and complete cost. interest and rational behavior • the absence of external effects; • the absence of public goods/clear ownership rights • all households and firms have complete information; • all households and. willingness to pay q One person’s demand q1 q2 P2 P1 Price Quantity per period D1+D2 =D = Social MB D1 D2 q1 q2 Q Adding up individual demands to get market demand The value consumers obtain P Q D Pm qm 0