Price
Price is a fundamental concept in economics and finance, representing the value assigned to goods and services during transactions between buyers and sellers. It can be expressed in monetary terms, such as currency, or through bartering, where services or goods are exchanged directly, like mowing a lawn for baking a cake. The asking price is initially set by the seller based on costs and desired profit, while the buying price, or bid price, is proposed by the buyer, typically lower than the asking price. Successful negotiation between the two parties results in the actual transaction price.
Price is influenced primarily by the dynamics of supply and demand; as supply increases, demand tends to decrease, and vice versa, impacting how prices fluctuate in the marketplace. Traditional economic theory, stemming from Adam Smith's insights, suggests that these interactions drive price changes without direct intervention. However, it is essential to recognize that other factors, such as taxes, regulatory fees, and competitive strategies, can also play significant roles in determining price. Overall, understanding price involves appreciating both the market forces at play and the contextual nuances of individual transactions.
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Price
Price is a concept that comes from the field of economics and finance. In the marketplace for goods and services, buyers and sellers exchange their wares in transactions that both parties (usually) agree are on fair terms. This means that the value given is perceived to be equal to or greater than the value received. This value is equivalent to the concept of price. Price may be expressed in symbolic form as a quantity of currency, such as US dollars, or price may be a bartered for exchange, as happens when two neighbors agree that one of them will mow the other’s lawn in exchange for the other baking a cake for the mower. In that case, the price of having the lawn mown would be the effort required to bake a cake, and the price of the cake would be the effort required to mow the lawn.
Background
Because financial transactions involve more than one party, there are inevitably multiple perspectives on each transaction and multiple interpretations of what the price is and what the price should be. This often involves a process of negotiation, and different types of price can come up depending on the stage the negotiations are at. One type of price that arises at the outset of a transaction is known as the asking price. This is the price that the seller sets for the good or service, based upon the seller’s expenses in creating or acquiring the article being offered for, and augmented by the profit (if any) that the seller wishes to receive. For example, if an employee is paid ten dollars per hour to use five dollars-worth of materials to make chairs, and each chair requires two hours to make, then the cost of making the chair is twenty-five dollars (ten dollars time two hours plus five dollars for materials). If the chair manufacturer wanted to realize a profit of five dollars on each chair, then the asking price for the chair would be thirty dollars (twenty-five dollars to recoup the cost of making the chair, and five additional dollars in profit).
In some transactions, the buyer may be dissatisfied with the asking price. When this occurs, the buyer may reject the transaction and look elsewhere for the articles, or the buyer may propose to the seller an alternative price (usually lower than the asking price). This proposed, lower price is known as the buying price or the bid price, because it is analogous to placing a bid during an auction. Once a buyer suggests a bid price to the seller, the seller must determine whether the bid price will be accepted or rejected. This determination will be based on the seller’s own financial situation as well as on the relationship, if any, between the buyer and seller. If they have a longstanding relationship, it may be more likely that there will be some flexibility in the terms of the transaction. The seller has the option of accepting the bid price, rejecting it, or making a counteroffer with a new asking price.
Overview
Assuming that both the buyer and seller can eventually agree upon a price, this will be known as the actual price or transaction price. Traditional economic theory states that price is determined purely through the interaction of supply and demand for the goods or services being bargained for, rather than being deliberately fixed by human intervention. This phenomenon was described by economist Adam Smith in The Wealth of Nations (1776) and has been elaborated on by generations of economists. Supply represents the amount of the goods or services available for purchase, and demand is an indicator of how much of the goods or services consumers in the marketplace would wish to purchase if they were available. Under this theory, when supply of a good or service in the marketplace goes up, demand goes down as consumers acquire the goods or services. Conversely, when demand increases, supply goes down because consumers are purchasing the articles and thus removing them from availability for others to acquire.
Free market theory is based on the assumption that fluctuations in supply and demand are what drive changes in price and determine what value price will be fixed at, at any given point in time. This can be seen in the example of a person selling ice cream cones. During the winter months, the demand for ice cream decreases because the cold weather makes it a less attractive treat. With lower demand, vendors trying to sell ice cream will try to entice customers by lowering their prices. They might first try lowering the cost by ten cents; if this doesn’t increase sales to an acceptable level, then they might lower the price still further. This process would continue until the price reaches a point at which sales begin to pick up, because the price is simply too low for customers to resist. From there, buyers and sellers would continue engaging in transactions with each other until demand was satisfied or until supply begins to run low. If supply starts to run low and demand begins to outpace it, then this can be expected to drive price upward, because buyers are essentially competing with each other to be able to buy the product. If, on the other hand, demand is satisfied, this will mean fewer people attempting to make purchases, which will eventually result in prices being lowered further in an effort to lure more customers.
While this theoretical perspective has been the conventional wisdom for many years, it is important to recognize that it excludes other factors which influence price, such as taxes and regulatory fees. Price can also be driven by competitor behavior such as "dumping," or flooding the market with goods at a depressed price, or used as an advantage to win customers away from competitors. A loss leader, such as many "big box" stores, sells some goods at below the market cost, using super low prices on common items to lure customers in on the assumption that sales on other items will compensate for losses on discounted products.
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