Title: Consumer Surplus, Producer Surplus, and Market Efficiency
1Consumer Surplus, Producer Surplus, and Market
Efficiency
2Consumer Surplus and the Demand Curve
- Example is the market for used textbooks,
concentrating on the buyers. - The example is going to show that the demand
curve is derived from peoples tastes or
preferences and these tastes and preferences also
determine how much they gain from the opportunity
to buy used books.
3Willingness to Pay
- Maximum price at which he or she would buy a good
- Individuals wont buy the good if it costs more
than this among but eager to do so if it cost
less - If the price is just equal to an individuals
willingness to pay, he or she is indifferent
between buying and not buying
4 The Demand Curve for Used Textbooks
Price of book
Aleisha
59
Potential buyers
Willingness to pay
59
Aleisha
Brad
45
Brad
45
35
Claudia
Claudia
25
35
Darren
10
Edwina
Darren
25
A consumers willingness to pay for a good is the
maximum price at which he or she would buy that
good.
10
Edwina
D
5
4
3
2
1
0
Quantity of books
5Willingness to Pay
- Not a smooth curve because it is only dealing
with a small number of consumers - Each horizontal segment how much one is willing
to pay - What is the quantity demanded at 59?
- What is the quantity demanded at 45?
6Willingness to Pay Consumer Surplus
- Campus Bookstore makes used textbooks available
at a price of 30. Who will buy books? - Do they gain from their purchase?
7Consumer Surplus in the Used Textbook Market
Aleishas consumer surplus 59-3929
The total consumer surplus is given by the entire
shaded area - the sum of the individual consumer
surpluses of Aleisha, Brad, and Claudia - equal
to 29 15 5 49.
8Willingness to Pay Consumer Surplus
- Individual Consumer Surplus net gain that a
buyer achieves from the purchase of a good - Whenever a buyer pays a price less than his or
her willingness to pay, the buy achieves an
individual consumer surplus - Total Consumer Surplus sum of the individual
consumer surpluses achieved by all the buyers of
a good - Aleisha, Brad and Claudia 29 15 5 49
9Consumer Surplus
- Refers to both individual and total consumer
surplus - Total consumer surplus is equal to the area below
the demand curve but above the price
The total consumer surplus generated by
purchases of a good at a given price is equal
to the area below the demand curve but above
that price
10Changing Prices Affects Consumer Surplus
- Textbook Example again..
- BUTthe bookstore has now decided to sell used
textbooks for 20 instead of 30. How much would
this fall in price increase consumer surplus?
11Consumer Surplus and a Fall in the Price of Used
Textbooks
12Changing Prices Affects Consumer Surplus
- The graph showed that when the price of a good
falls, the area under the demand curve but not
above the price (which is equal to total consumer
surplus) increases
13Producer Surplus and the Supply Curve
- We have buyers of goods that would be willing to
pay more for their purchase than the price they
actually pay - Some sellers of a good would have been willing to
sell it for less than the price they actually
receive
14Producer Surplus and the Supply Curve
- Sellers cost lowest price at which a potential
seller is willing to sell - What is Andrews cost? What is Bettys cost?
15Producer Surplus and the Supply Curve
- Since the students dont have to manufacture the
books, does it cost the student who sells a book
anything to make that book available for sale? - YES!
- You wont have it later in your personal
collection opportunity cost! - When saying cost of a good as a seller,
referring to selling that good even if you dont
spend any money to sell the good
16Producer Surplus and the Supply Curve
- Individual Producer Surplus the net gain, the
difference between the price he actually gets and
his cost, the minimum price at which he would
have been willing to sell - Total Producer Surplus the total net gain to
all sellers in the market - Producer Surplus refers to either the total or
individual producer surplus
17Producer Surplus in the Used Textbook Market
Total Producer Surplus is given by the entire
shaded area, the sum of the individual producer
surpluses of Andrew, Betty, and Carlos. 25
15 5 45
The total producer surplus from sales of a good
at a given price is the area above the supply
curve but below that price.
18How Changing Price Affects Producer Surplus
- When the price of a good rises, producer surplus
increases through two ways - The gains of those who would have supplied the
good even at the original, lower price and - The gains of those who are induced to supply the
good by the higher price
19A Rise in the Price Increases Producer Surplus
20Consumer Surplus, Producer Surplus, and the Gains
from Trade
- Total Surplus generated in a market is the total
net gain to consumers and producers from trading
in the market. It is the sum of the producer and
the consumer surplus - This also shows there are gains from trade
21Total Surplus
22The Efficiency of Markets
- Markets are usually efficient
- Are they?
- It is claimed that once the market has produced
its gains from trade, there is no way to make
some people better off without making ofther
people worse off, except..under well-defined
conditions
23The Efficiency of Markets
- A committee wants to improve on the market
equilibrium by deciding who gets and who gives up
a used textbook. The goal of the committee
bypass the market outcome and come up with
another arrangement that would produce higher
total surplus
24The Efficiency of Markets
- Three ways to increase the total surplus
- Reallocate consumption among consumers
- Reallocate sales among sellers
- Change the quantity traded
251. Reallocate consumption among consumers
- Committee tries to increase total surplus by
selling books to different consumers
262. Reallocate sales among sellers
- Committee tried to increase total surplus by
altering who sells their books, taking sales away
from sellers who would have sold their books in
the market equilibrium and instead compelling
those who would not have sold their books in the
market equilibrium to sell them
273. Change the quantity traded
- Committee tries to increase total surplus by
compelling students to trade either more books or
fewer books than the market equilibrium quantity.
28The Efficiency of Markets
- Key Idea once this market is in equilibrium,
there is no way to increase the gains from trade - An efficient market performs four important
functions
29The Efficiency of Markets
- An efficient market performs four important
functions - It allocates consumption of the good to the
potential buyers who most value it, as indicated
by the fact that they have the highest
willingness to pay - It allocates sales to the potential sellers who
most value the right to sell the good, as
indicated by the fact that they have the lowest
cost
30The Efficiency of Markets
- It ensures that every consumer who makes a
purchase values the good more than every seller
who makes a sale, so that all transactions are
mutually beneficial - It ensures that every potential buyer who doesnt
make a purchase values the good less than every
potential seller who doesnt make a sale, so that
no mutually beneficial transaction are missed
31The Efficiency of Markets
- Three caveats
- Market can be efficient, it isnt necessarily
fair - Markets sometimes fail
- Even when market equilibrium maximizes total
surplus, this does not mean that it results in
the best outcome for every individual consumer
and producer
32The Efficiency of Markets
- Efficiency is about how to achieve goals, not
what those goals should be
33Consumer Surplus, Producer Surplus, and Market
Efficiency Notes
34Willingness to Pay
- Individuals wont buy the good if it costs more
than this among but eager to do so if it cost
less - If the price is just equal to an individuals
willingness to pay, he or she is indifferent
between buying and not buying
35 The Demand Curve for Used Textbooks
Price of book
Aleisha
59
Potential buyers
Willingness to pay
59
Aleisha
Brad
45
Brad
45
35
Claudia
Claudia
25
35
Darren
10
Edwina
Darren
25
10
Edwina
D
5
4
3
2
1
0
Quantity of books
36Willingness to Pay
- What is the quantity demanded at 59?
- What is the quantity demanded at 45?
37Willingness to Pay Consumer Surplus
- Campus Bookstore makes used textbooks available
at a price of 30. Who will buy books? - Do they gain from their purchase?
38Consumer Surplus in the Used Textbook Market
Aleishas consumer surplus 59-3929
39Willingness to Pay Consumer Surplus
- Individual Consumer Surplus net gain that a
buyer achieves from the purchase of a good - Total Consumer Surplus sum of the individual
consumer surpluses achieved by all the buyers of
a good
40Consumer Surplus
- Refers to both individual and total consumer
surplus
41Consumer Surplus and a Fall in the Price of Used
Textbooks
42Changing Prices Affects Consumer Surplus
- The graph showed that when the price of a good
falls, the area under the demand curve but not
above the price (which is equal to total consumer
surplus) increases
43Producer Surplus and the Supply Curve
- We have buyers of goods that would be willing to
pay more for their purchase than the price they
actually pay
44Producer Surplus and the Supply Curve
- Sellers cost lowest price at which a potential
seller is willing to sell - What is Andrews cost? What is Bettys cost?
45Producer Surplus and the Supply Curve
- Since the students dont have to manufacture the
books, does it cost the student who sells a book
anything to make that book available for sale? - YES!
46Producer Surplus and the Supply Curve
- Individual Producer Surplus
- Total Producer Surplus
- Producer Surplus
47Producer Surplus in the Used Textbook Market
48How Changing Price Affects Producer Surplus
- When the price of a good rises, producer surplus
increases through two ways
49A Rise in the Price Increases Producer Surplus
50Consumer Surplus, Producer Surplus, and the Gains
from Trade
- This also shows there are gains from trade
51Total Surplus
52The Efficiency of Markets
- Markets are usually efficient
- Are they?
- It is claimed that once the market has produced
its gains from trade, there is no way to make
some people better off without making ofther
people worse off, except..under well-defined
conditions
53The Efficiency of Markets
- A committee wants to improve on the market
equilibrium by deciding who gets and who gives up
a used textbook. The goal of the committee
bypass the market outcome and come up with
another arrangement that would produce higher
total surplus
54The Efficiency of Markets
- Three ways to increase the total surplus
- Reallocate consumption among consumers
- Reallocate sales among sellers
- Change the quantity traded
551. Reallocate consumption among consumers
- Committee tries to increase total surplus by
selling books to different consumers
562. Reallocate sales among sellers
- Committee tried to increase total surplus by
altering who sells their books, taking sales away
from sellers who would have sold their books in
the market equilibrium and instead compelling
those who would not have sold their books in the
market equilibrium to sell them
573. Change the quantity traded
- Committee tries to increase total surplus by
compelling students to trade either more books or
fewer books than the market equilibrium quantity.
58The Efficiency of Markets
- Key Idea once this market is in equilibrium,
there is no way to increase the gains from trade - An efficient market performs four important
functions
59The Efficiency of Markets
- An efficient market performs four important
functions - It allocates consumption of the good to the
potential buyers who most value it, as indicated
by the fact that they have the highest
willingness to pay - It allocates sales to the potential sellers who
most value the right to sell the good, as
indicated by the fact that they have the lowest
cost
60The Efficiency of Markets
- It ensures that every consumer who makes a
purchase values the good more than every seller
who makes a sale, so that all transactions are
mutually beneficial - It ensures that every potential buyer who doesnt
make a purchase values the good less than every
potential seller who doesnt make a sale, so that
no mutually beneficial transaction are missed
61The Efficiency of Markets
- Three caveats
- Market can be efficient, it isnt necessarily
fair - Markets sometimes fail
- Even when market equilibrium maximizes total
surplus, this does not mean that it results in
the best outcome for every individual consumer
and producer
62The Efficiency of Markets
- Efficiency is about how to achieve goals, not
what those goals should be