What is the price mechanism?

The price mechanism is an economic concept that refers to the way in which the price of the product depends on the supply and demand for this product. The concept, which is first assumed by economist Adam Smith, relies on the functioning of the free market system for its existence. Like the price of the product, it will respond to changes in supply and demand, it will also provide and demand to respond to the price change. Thus, the price mechanism helps to achieve any balance between all elements in the economy.

One of the main characteristics of the free market economy is how millions of consumers make a decision made of millions of consumers will think about the way the goods are produced and these goods are appreciated. None of these seemingly heterogeneous elements are in vacuum. Instead, everyone depends on themselves and responds to the movements up and down to the supply and demand curve. The price mechanism thus reflects the effect and reaction of the entire free market.

For example, imagine that there is a sudden demand among members of the companybulbs. As demand increases, bulbs manufacturers will be able to increase the price of bulbs to reflect this demand. The company that produces bulbs will devote more of its production efforts on bulbs, increasing the supply to suit the demand.

With this example, the price mechanism resulted in an initial increase in the prices of bulbs. Since the initial demand for bulbs was deployed and increased production has led to the fact that the mechanism begins to produce more bulbs, it begins to move back the opposite. Increasing the price and the increased supply will lead to less demand for bulbs. As soon as this happens, the prices will fall back, the company will again reduce their efforts to produce bulbs and the cycle turn back to somewhere near the original starting point.

If the demand for a certain product increases in an inverse ratio to the supply, the price mechanism acts as a type of rationing agent for this product. The price will rise to make fromThere was a low demand until the offer level could catch up. As a result, prices can return again.