Barter requires no special tools,...
But selling and buying require a medium of exchange: Money
o Selling means obtaining money in exchange for goods.
o Buying means obtaining a good in exchange for money.
Types of Money
o has no value of its own
o declared to be money by the state or other institution
o often exists only as paper (currency),...
o or as intangible notations in computer memory banks
(most US dollars).
Acceptance of Money
Why do people accept paper money in return for valuable
goods and services?
o We accept paper money from others, because...
o Bitcoin ?
What would happen if I told you...
“Don’t accept US dollars—they’re worthless.”
Competition is the driving force of any free- market economic
The analysis of competition will occupy a major part of this
Our analysis of competition will focus on selling and buying
rather than on barter.
And a very important feature of selling and buying is the
determination of prices.
Prices are defined when money is used for selling and buying.
The price of a good is the amount of money exchanged for
one unit of the good.
Prices are useful, because they measure the value that
markets place on a good.
Prices tell people how much a good is worth!
Prices Under Barter?
Prices are not clearly defined in a barter system.
Barter does define an exchange ratio for each pair of goods.
Perfect Competition The phrase “perfect competition” describes a market with
many buyers and many sellers (and other properties).
A perfectly-competitive market represents an extreme case
that doesn’t exist in the real world...
...except in the form of a model.
But some real markets are close to the model.
We will spend a lot of time analyzing the model of perfect
...and we’ll say what happens when real markets deviate from
Markets with Perfect Competition: Model Characteristics
One homogeneous good
Many buyers and sellers
Full information and perfect foresight
Rational and self-interested agents
Free entry to the market [used later in the course]
“Law” of One Price
At any given time in a perfectly competitive market,
identical goods must have the same price.
The law must be true, because the opposite is not possible.
Under perfect competition, transactions at two or more prices
will not be completed.
So suppose two transactions are in progress at two different
What would happen?
Why One Price?
The losers know who they are before they make the exchange
They want to do better (rational self-interest).
The losers decide to trade with each other.
At the compromise price, both would be better off.
The original proposed exchanges (at two different prices)
cannot go through!
o Claudia is ready to buy from Dilip for $1, and...
o Randy is ready to buy from Stefania for $3.
o And suppose that neither Dilip nor Randy knows that he
is a “loser.”
Then Alberto (a shrewd businessman) could
o offer to buy from Dilip for $1.50,...
o and sell to Randy for $2.50. o Dilip and Randy would be happy,...
o and Alberto would earn a tidy profit of $1.
Alberto is an “arbitrageur.”
He takes advantage of price differences in the same product
to “buy low and sell high.”