Allocation of resources and the market

mechanism
Each time there is a disequilibrium, this mechanism allows the market to
move to a new equilibrium point. The reallocation of resources that takes
place with the market mechanism is done by the invisible hand (without
involvement by the government).

The invisible hand refers to the unobservable market force that helps the
demand and supply of goods in the free market reach equilibrium
automatically.

Advantages and disadvantages of the

market mechanism

Advantages
 Allocative efficient. The market mechanism allows the free market to
distribute goods and services efficiently without much waste and it
benefits society as a whole.
 Signals to investment. The market mechanism signals to firms and
investors which goods and services are profitable and thus where they
should invest and where they shouldn't.
 No government intervention. Good and services are provided based
on the invisible hand. Producers are free to produce whatever they want
and consumers are free to buy whatever they want without the need for
government intervention.
 Disadvantages
 Market failure. Where there is no profit incentive to produce a
particular good or service like healthcare or education, producers will
not produce it, even if there is a necessity for it or high demand.
Because of this, many vital goods and services are under produced by
the free market thus leading to market failure.
 Monopoly. In the real world, there is sometimes only one seller of a
good or service. Because of the lack of competition, they control the
prices and supply of that good or service. Especially if this is a
necessary good or service, consumers still have to buy it even if the
price is too high.
 Wastage of resources. In theory, there should be little to no wastage of
resources as they are efficiently distributed, but in the real world that
isn't always the case. Most firms value profits over efficient processes
and this results in waste of resources.

Market mechanisms: market failure and

government intervention
Market failure is when there is an inefficient distribution of goods and
services in the free market.
When this occurs, government intervention is important. It enables the
correction of market failure and the achievement of social and economic
goals both as an economy and on a personal level.
However, government intervention can also have negative effects on the
market. This is known as government failure.

Government failure is a situation where government intervention in the

economy creates inefficiency and leads to the misallocation of resources.
Market Failure, Government Intervention, and Government Failure are key
concepts that link to the market mechanism.
Key Points

 The market mechanism is a system of the market where the forces

of demand and supply determine the price and quantity of goods and
services traded.

 The market mechanism relies on the invisible hand to fix market

malfunctions.

 The market mechanism has three functions: signaling, giving

incentives, and rationing.

 The market mechanism allows the market to move to an equilibrium

point and distributes resources efficiently.

 The market mechanism has some advantages: allocative efficiency,

signals investment, and no government intervention. It also has some
disadvantages: market failure, monopoly, waste of resources.

 Government intervention is used when the market mechanism fails to

correct market failure.
What is market mechanism?
The market mechanism is a system of the market where the forces of demand
and supply determine the price and quantity of goods and services.
What is the function of market mechanism?
 Signals whether prices are too high or too low.
 Incentives to change the price of goods and services.
 Rations excess demands and supply.
 Helps with the allocation of scarce resources.

What is the market mechanism also referred to as?

The market mechanism is also referred to as the 'Price Mechanism'.
What are the advantages of market mechanism?
 Helps ration goods and resources.
 Gives a signal to producers on what to and not to invest in.
 Determines income distribution amongst input owners.
 Gives producers complete freedom to decide what to produce.