2281 · 2.2
The role of markets in allocating resources
When people want more of something its price rises, producers earn more by making it, and land, workers and machines move into producing it. Prices move resources to where buyers want them.
Need to know
What you need to know
- Resource allocation is the decision about how factors of production are divided between products.
- In a market economy prices make that decision, not a planner.
- Consumer sovereignty: consumers' spending determines what is produced.
- Producers follow profit, so resources move towards the goods consumers are willing to pay for.
Explanation
The role of markets in allocating resources
- Consumers spend on what they want; their spending acts like votes.
- Where demand outruns supply the price rises — that is the signal.
- Higher profit gives producers the incentive to expand and new firms to enter.
- The higher price rations the good to those willing to pay until supply catches up.