Consider the following dialogue between two economics students, Megan and Raphael, after a recent economics lecture.

MEGAN:Hi Raphael. Today the professor said that the market decides how much of each good or service to produce. I don't understand what that means. Nobody decides how many goods to produce. I'm so confused!

RAPHAEL:Okay, I see where you are confused. Let's run through it one more time.

You are correct that in a market system, no one person decides what quantities of goods to produce in the economy, though that may be the case in other types of economic systems. In a market economy, output levels are determined by individual producers and consumers buying and selling goods.

Suppose that in the market for smart phones, more smart phones were produced than consumers wanted to buy. In other words, smart phone producers have surplus smart phones that they cannot sell. (1)__________ will (2) ____________ the price of each smart phone in order to encourage (3)____________ to purchase the remaining smart phones. At this new price, some producers will be unwilling to supply smart phones to the market.

MEGAN:Okay, that makes more sense. So if not enough smart phones are being produced, (4)____________ will offer to pay (5) ______________ for each smart phone, because smart phones are now relatively scarce. At this new price, producers will be willing to supply more smart phones to the market.

RAPHAEL:I think you are starting to get it! The professor was just saying that the amount of each good produced is determined by the interactions of individual producers and consumers. Eventually, the price will be such that the quantity of smart phones desired by consumers will be equal to the quantity of smart phones supplied to the market by producers. This is what the professor meant when he said that the market determines how much of each good is produced.