Market Behaviour of Consumers and Producers

In a world without taxes, how consumers and producers are assumed to behave in a perfectly competitive economy is addressed in this chapter. Consumers express their demands for products in the marketplace reflected in their ‘utility functions’. Producers use engineering technology and associated costs to construct factories and warehouses that comprise their fixed cost for their production structure. They also use machinery, raw materials and labour and obtain their input prices from the market. They combine fixed cost with the variable costs, the former remaining constant and the latter varying with the quantity they choose to produce. In turn, that determines their supply in the market revealing how much they will supply at each price faced by their product. Thus, all consumers combine to generate varying market demands at different market prices and all suppliers combine to generate changing market supplies at different market prices. An equilibrium price–quantity combination occurs where the schedules or curves of market demand and supply of a commodity intersect. At the equilibrium, the ‘marginal rates of substitution’ among consumers equal the ‘marginal rates of transformation’ among producers. These foundational concepts of market equilibrium are elaborated through figures and explanations in this chapter.