Functions of the Price Mechanism - Introduction AdamSmith,

Functions of the Price Mechanism - Introduction AdamSmith,

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Functions of the Price MechanismIntroductionAdam Smith’s Invisible HandAdam Smith, one of the Founding Fathers of economics described the “invisible hand of the price mechanism” in which the hidden-hand of the market operating in a competitive market through the pursuit of self-interest allocated resources in society’s best interest.This remains a view held by free-market economists who believe in the virtues of an economy with minimalgovernment intervention.The price mechanism describes the means by which millions of decisions taken by consumers and businesses interact to determine the allocation of scarce resources between competing usesThe price mechanism plays three important functions in a market:1/ Signalling functionPrices perform a signalling function – they adjust to demonstrate where resources are required, and where they are notPrices rise and fall to reflect scarcities and surplusesIf prices are rising because of high demand from consumers, this is a signal to suppliers to expand production to meet the higher demandIf there is excess supply in the market the price mechanism will help to eliminate a surplus of a good by allowing the market price to fall.
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  • Fall '13
  • N/A
  • price mechanism

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