While discussing the theory of market price, one should be very clear about the meaning of the tern ‘market’. In economics, a market exists when buyers for a good or a service are in contact with sellers who are prepared to sell. Thus, a market is defined in terms of the forces of demand and supply, and is not necessarily confined to a geographical location. What is essential for a market is that the buyers and sellers are able to get in touch with one another and that exchange of goods and services for money takes place between them.
There can be several different types of markets depending upon the nature of the product being bought and sold, the number of buyers and sellers, and such other factors. For the sake of convenience, we shall discuss the process of price determination in an imaginary market where the following conditions prevail:
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- Different units of the commodity are exactly similar in shape, size, packing, quantity, etc. so that all units of the same commodity are sold at the same price, i.e. the commodity is homogenous.
- The commodity being bought and sold in the market is perfectly divisible and a consumer can buy it in the quantity of his choice, small or large, without having to pay a higher or lower price.
- There is a large number of buyers and sellers of the commodity in the market. Given this, no individual buyer can influence the price by increasing or decreasing his own purchase because being just one of the many buyers in the market, he will not be taking a significant amount of the product. Similarly, an individual seller will be selling such a small proportion of the product in the market that he will not be in passion to increases the price by reducing or increasing his own supply of the product.
- There is no transport cost involved in taking the product from one place to another. In a real situation, however, one has to incur some expenditure on transport. But this condition has been assumed so that the process of price determination is understood without any complications.
- There is perfect knowledge among the buyers and the sellers with respect to price so that nobody is able to buy or sell the product at a price other than the one prevailing in the market.
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