A builder's subdivision sold quickly at prices well above cost. Within two years, three competing builders opened subdivisions nearby with similar homes, buyer demand held steady, and the original builder had to cut prices on its remaining homes. Which principle best explains the price cuts?
Correct Answer
A) Competition, as the added supply met unchanged demand
Strong profits drew competing builders, raising supply while demand held steady; when supply exceeds demand, price tends to fall. Regression needs inferior neighbors, but the new homes are similar; conformity favors similar homes rather than penalizing them; and nothing in the facts shows buyers expecting further cuts.
Why This Is the Correct Answer
Option A is correct because price is set by the competitive interaction of supply and demand. New subdivisions added supply while demand stayed the same, creating excess supply, and excess supply causes price to decrease.
Why the Other Options Are Wrong
Option B: Regression, as nearby inferior homes pulled value down
Option B blames regression from nearby inferior homes. The competing homes are similar, not inferior, and the price cuts come from added supply rather than from a superior home sitting among lesser ones.
Option C: Conformity, as similar homes nearby crowded the market
Option C says conformity explains the cuts because similar homes crowded the market. Conformity holds that reasonable similarity supports value; the crowding effect described is excess supply, which is the competition principle.
Option D: Anticipation, as buyers expected further price cuts
Option D says buyers expected further price cuts. The facts give no evidence of such expectations; they show more homes competing for the same demand.
Profits invite competitors
High profits draw new builders, new builders add supply, and added supply against steady demand pushes prices down.
How to use: Use this when a stem describes new entrants following strong sales and then softer prices.
Exam Tip
When a scenario shows supply rising against steady demand, the price effect is downward pressure from competition, not a neighborhood-influence principle.
Common Mistakes to Avoid
- -Attributing supply-driven price declines to regression
- -Assuming high profits will persist despite new competition
- -Ignoring nearby new construction when analyzing supply
Concept Deep Dive
Analysis
The scenario traces a classic competitive cycle: high profits, new entrants, more supply, steady demand, and falling prices. The task is to recognize the competitive interaction of supply and demand behind the price cuts.
Background Knowledge
In a free-market economy, market demand and supply interact competitively to set price. Excess demand tends to raise price, excess supply tends to lower it, and above-normal profits tend to attract new competitors whose added supply erodes those profits.
Real-World Application
After one builder's quick sell-out, several competitors open nearby tracts. The appraiser documents rising inventory and longer marketing times and explains the softer prices as excess supply.
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