ACCA Performance Management (F5) Certification Practice Exam

In a competitive market, what generally happens to prices over time?

1. Prices tend to increase indefinitely

2. Prices stabilize at a high point

3. Prices tend to fluctuate based on supply and demand

4. Prices become fixed due to market control

The correct answer is: Prices tend to fluctuate based on supply and demand

In a competitive market, prices are primarily determined by the interplay of supply and demand. As the supply of a good or service increases or decreases, or as consumer demand changes, prices will typically respond accordingly. For instance, if demand for a product rises and supply remains constant, prices usually increase. Conversely, if supply increases and demand remains the same, prices are likely to decrease. This fluctuation ensures that resources are allocated efficiently, as producers will respond to changes in the market by adjusting their supply levels and pricing strategies. Therefore, in a truly competitive market, prices are not static but rather dynamic, reflecting the ongoing changes in market conditions. Prices stabilizing at a high point implies an unchanging market state, which does not capture the inherent variability influenced by competitive forces. Similarly, the idea of prices increasing indefinitely doesn’t account for the balancing mechanisms of supply and demand that typically bring prices back towards equilibrium. Finally, prices becoming fixed due to market control suggests a lack of competition, which is contrary to the nature of a competitive market where multiple players set prices through their individual supply and demand interactions.