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October 18, 2018 

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PERFECT COMPETITION CHARACTERISTICS: The four key characteristics of perfect competition are: (1) large number of small firms, (2) identical products sold by all firms, (3) freedom of entry into and exit out of the industry, and (4) perfect knowledge of prices and technology. These four characteristics mean that a given perfectly competitive firm is unable to exert any control whatsoever over the market.

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PRICE STABILITY:

The condition in which the average price level in the economy changes very slowly, if at all. This is a key part of the macroeconomic goal of stability. Price stability is commonly indicated by the inflation rate, calculated as percentage change in either the Consumer Price Index (CPI) or the GDP price deflator. Price stability is generally achieved by the ABSENCE of large or rapid increases or decreases in the price level.
Price stability is achieved if prices in the economy, on average, tend to remain relatively constant. Some prices might rise a bit and some might fall a bit. However, as long as the average remains relatively constant, then price stability is achieved. In other words, there is no inflation or deflation.

Of course, some degree of price changes are an important feature of any economy. These changes entice resource owners to seek out the most efficient production. Market shortages cause prices to rise and market surpluses cause prices to fall. These price changes signal the reallocation of resources toward the production of goods with shortages and away from goods with surpluses.

Problems, however, result when prices fluctuate significantly--rising, then falling, then falling more, then rising back again, then rising even higher before falling. Unstable prices create uncertainty throughout the economy and can cause a haphazard, and usually undesirable, redistribution of income and wealth.

Uncertainty

Price instability makes it extremely difficult for consumers, businesses, and governments to plan for the future. Most people tend to be risk averse--they prefer certainty to uncertainty.

For example, suppose that wages, the price of labor, fluctuate widely from month to month, rising one month, then falling the next. With such a variation in income, workers find it difficult to commit to any long-term expenditures (such as borrowing funds to buy a house or car). Of course, workers could "save" income during high wage months to compensate for low wage months, but the steady income stream that comes with stable prices makes life much easier to manage.

Likewise, if consumer prices also fluctuate widely from day to day or week to week, each trip to the market is an exciting adventure. Are prices 50 percent higher or 75 percent lower today than last week? How much money does a consumer need to buy groceries THIS WEEK?

Price stability is probably even more valued by businesses and governments. A significant amount of business and government activity involves long-term commitments--such as investing in multi-year capital construction projects, anticipating tax or revenue collections, and planning expenditure budgets. Widely fluctuating prices can make long-term planning virtually impossible and play havoc with operating a business or with running a government.

Haphazard Redistribution

Unstable prices also cause haphazard redistributions of income and wealth that may be undesirable and are often counter productive to the economy. Suppose, for example, that one year health care prices rise while farm prices fall. The result is that income and wealth, in terms of purchasing power, are redistributed from the farm industry and its resource owners to the health care industry and its resource owners. However, if the following year, health care prices fall and farm prices rise, then income and wealth are redistributed back to the farm industry from the health care industry. The key question is whether or not society wants income and wealth to be redistributed in this manner.

Such instability is compounded by the fact that the reallocation of resources is seldom instantaneous--doctors need years of training, cropland is locked into a given crop from planting to harvest. As such, sudden price fluctuations are more likely to benefit or harm existing resource owners in an industry as to efficiently reallocate resources between industries.

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Recommended Citation:

PRICE STABILITY, AmosWEB Encyclonomic WEB*pedia, http://www.AmosWEB.com, AmosWEB LLC, 2000-2018. [Accessed: October 18, 2018].


Check Out These Related Terms...

     | price index | price level | inflation | deflation | disinflation | inflation problems | inflation causes | inflation rate | Consumer Price Index | GDP price deflator |


Or For A Little Background...

     | stability | business cycles | expansion | contraction | macroeconomics | macroeconomic goals | macroeconomic problems | gross domestic product | shortage | surplus |


And For Further Study...

     | cost of living | demand-pull inflation | cost-push inflation | Producer Price Index | Wholesale Price Index | CPI and GDP price deflator | unemployment | Bureau of Labor Statistics | Bureau of Economic Analysis | National Income and Product Accounts | shortage | circular flow | stabilization policies |


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