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Market Efficiency: Consumer & Producer Surplus

The document discusses key concepts in welfare economics including consumer surplus, producer surplus, demand and supply curves, and how prices affect total surplus. It explains that: Consumer surplus is the amount buyers are willing to pay minus the amount they actually pay, and measures the benefit to buyers. Producer surplus is the amount sellers are paid minus their costs. The equilibrium price maximizes total surplus, which is the sum of consumer and producer surplus and is measured by the area between the supply and demand curves. This equilibrium promotes efficiency by allocating resources to those who value them most and can produce them at the lowest cost.

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11 views11 pages

Market Efficiency: Consumer & Producer Surplus

The document discusses key concepts in welfare economics including consumer surplus, producer surplus, demand and supply curves, and how prices affect total surplus. It explains that: Consumer surplus is the amount buyers are willing to pay minus the amount they actually pay, and measures the benefit to buyers. Producer surplus is the amount sellers are paid minus their costs. The equilibrium price maximizes total surplus, which is the sum of consumer and producer surplus and is measured by the area between the supply and demand curves. This equilibrium promotes efficiency by allocating resources to those who value them most and can produce them at the lowest cost.

Uploaded by

Leilani
Copyright
© Attribution Non-Commercial (BY-NC)
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd

Chapter 7: Consumers, Producers and the Efficiency

of Markets 02/02/2011

Welfare economics: the study of how the allocation of resources


affects economic well being

Willingness to pay: the maximum amount that a buyer will pay for a
good; a buyer would be eager to buy the good at a price less than his
willingness to pay and wouldn’t buy the good at a price greater than his
willingness to pay

Consumer surplus: the amount a buyer is willng to pay for a good


minus the amount the buyer actually pays for it; measures the benefit to
buyers of participating in a market

Demand curve and Demand schedule:

Prce Buyers Quantity Demanded


More than $100 None 0
$80 to $100 John 1
$70 to $80 John, Paul 2
$50 to $70 John, Paul, George 3
$50 or less John, Paul, George, 4
Ringo
The table shows the demand schedule for the buyers. The graph shows
the corresponding demand curve. The height of the demand curve reflects
the buyers’ willingness to pay.

Buyers always want pay less for the goods they buy- low price make
buyers better off.

Measuring Consumer Surplus with the Demand Curve:


In panel (a) the price of the good is $80 and the consumer surplus is
$20. In panel (b) the price of the good is $70 and the consumer surplus is
$40.

How the price affects consumer surplus:


When the price falls, the quantity demanded rises and the consumer
surplus rises. The increase in consumer surplus occurs in part because
existing consumers pay less and new comers enter because of the lower
price.

Cost: the value of everything a seller must give up to produce a good

Producer surplus: the amount a seller is paid for a good minus the
seller’s cost of providing it

The Supply Schedule and the Supply Curve:

Price Seller Quantity Supplied


$900 or more Mary, Frida, Georgia, 4
Grandma
$800 to $900 Frida, Georgia, 3
Grandma
$600 to $800 Georgia, Grandma 2
$500 to $600 Grandma 1
Less than $500 None 0
The table shows the supply schedule for the sellers. The graph shows
the corresponding supply curve. The height of the supply curve reflects
sellers’ costs.

How the price affects producer surplus:


When the price rises the quantity supplied rises and the producer
surplus rises. The increase in producer surplus occurs in part because
existing producers now receive more and in part because new producers
enter the market at the higher price.

Total surplus: sum of consumer and producer surplus

Consumer Surplus:
Consumer surplus= value to buyers – amount paid by buyers

Producer surplus:
Producer surplus= amount received by sellers – cost to sellers

Total surplus:
Total surplus= value to buyers – amount paid by buyers + amount
received by sellers – cost to sellers
-OR-
Total surplus= value to buyers – cost to sellers

Efficiency: the property of a resource allocation of maximizing the total


surplus received by all members of society

Equity: the fairness of the distribution of well-being among the


members of society

Consumer and producer surplus in the market equilibrium:


Total surplus is the area between the supply and demand curves up to
the equilibrium quantity.
The efficiency of the equilibrium quantity:
*Free markets allocate the supply of goods to the buyers who value
them most highly, as measured by their willingness to pay.
*Free markets allocate the demand for goods to the sellers who can
produce them at least cost.
*Free markets produce the quantity of goods that maximizes the sum
of consumer and producer surplus.
02/02/2011
02/02/2011

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