The Power of Prices The Power of Prices

Consumer Surplus Consumer Surplus

Consumer surplus is how much the good is Consumer surplus is how much the good is worth to the consumer, in the abstract, worth to the consumer, in the abstract, minus what the consumer actually paid for minus what the consumer actually paid for it. it. Consumer Surplus = Demand -- Market Price Consumer Surplus = Demand Market Price

Marginal Benefit and Marginal Benefit and Consumer Surplus Consumer Surplus
$

Demand Demand The demand curve shows The maximum price is the consumers price the the maximum marginal benefit the would pay consumer incremental value of each additional for each quantity that might be purchased. item consumed.
1 2 3 Quantity

Consumer Surplus Consumer Surplus

Consumers demand for blue jeans. Price Quantity Consumers benefits from buying blue jeans. Quantity Marginal Total Benefit Benefit 1 $20 $20

$20

$15

$15

$35

$10

$10

$45

Consumer Surplus Consumer Surplus

Demand for blue jeans. Price Quantity Benefits from buying blue jeans. Total Benefit Total Paid Consumer Surplus $20 $20 $0

$20

$15

$35

$30

$5

$10

$45

$30

$15

Consumer Surplus Consumer Surplus

$ Consumer surplus in general.

Price =$10

Demand Demand

Quantity

The consumer The consumer surplus is the surplus is the area under the area under the demand curve and demand curve and above the market above the market price. It is what price. It is what consumers gain consumers gain from their purchases from their purchases after deducting the after deducting the cost. cost.

Consumer Surplus Consumer Surplus

$ $10 $5 $0 Price =$10

Demand Demand

Quantity

At a price of $10 per At a price of $10 per pair of jeans, Dwight pair of jeans, Dwight buys three pair, and buys three pair, and receives $15 worth of receives $15 worth of consumer surplus. consumer surplus. His consumer surplus His consumer surplus equals the sum of the equals the sum of the consumer surplus consumer surplus from the 1st, 2nd, from the 1st, 2nd, and 3rd pair of jeans. and 3rd pair of jeans. $10 +$5 + $0 =$15. $10 +$5 + $0 =$15.

Marginal Cost and Marginal Cost and Producer Surplus Producer Surplus
The supply curve depicts the minimum price The supply curve depicts the minimum price that the producers of a good would be willing to that the producers of a good would be willing to accept for each quantity offered. accept for each quantity offered. That minimum price is the producers marginal That minimum price is the producers marginal cost,, which is the incremental cost of producing cost which is the incremental cost of producing each additional item offered for sale. each additional item offered for sale. The producer surplus is equal to the amount by The producer surplus is equal to the amount by which total revenue exceeds the total cost. which total revenue exceeds the total cost.

Marginal Cost Marginal Cost

$ Supply

Marginal cost increases as quantity produced rises.

Quantity

Producer Surplus Producer Surplus

Supply of blue jeans. Price Quantity Cost of producing blue jeans. Quantity Marginal Cost 1 $5 Total Cost

$5

$5

$7.50

$7.50

$12.50

$10

$10

$22.50

Producer Surplus Producer Surplus

Buddys supply of blue jeans. Price Quantity Sold $5 1 Buddys cost of producing blue jeans. Total Cost Total Producer Revenue Surplus $5 $5 $0

$7.50

$12.50

$15

$2.50

$10

$22.50

$30

$7.50

Producer Surplus Producer Surplus

$ Price $10 Producer Surplus Supply The producer surplus is the area above the supply curve and under the market price. It is what the producers gain from their sale after deducting their cost.

Quantity

Producer Surplus Producer Surplus

$ $5 Price $10 $2.50 Supply $0 At a price of $10 per pair of jeans, Buddy sells 3 pair and receives $7.50 worth of producer surplus. His producer surplus equals the sum of his producer surplus from the 1st, 2nd and 3rd pairs, which is $5 + $2.50 +$0 equals $7.50

Quantity

Marginal Benefit and Marginal Cost Marginal Benefit and Marginal Cost
Marginal Benefit (to consumers): The Marginal Benefit (to consumers): The value of each additional unit of the good. value of each additional unit of the good. Marginal Cost (to producers): The cost of Marginal Cost (to producers): The cost of resources used to produce each additional resources used to produce each additional unit. unit. The efficient output occurs when societys The efficient output occurs when societys marginal benefit equals marginal cost. marginal benefit equals marginal cost.

Market Efficiency Market Efficiency

$ Consumer Equilibrium Surplus Price Producer Surplus Demand = Marginal Benefit Social Surplus = consumer surplus + producer surplus Supply = Marginal Cost

Efficient Quantity

Quantity

The Market Equilibrium Price The Market Equilibrium Price

The market equilibrium price leads to the The market equilibrium price leads to the efficient quantity. efficient quantity. No other quantity would generate a larger total No other quantity would generate a larger total of consumer and producer surplus.. of consumer and producer surplus If the price is less than the equilibrium price, If the price is less than the equilibrium price, quantity falls because producers arent willing quantity falls because producers arent willing to sell as much. to sell as much. If the price is greater than the equilibrium price If the price is greater than the equilibrium price quantity falls because consumers arent willing quantity falls because consumers arent willing to buy as much. to buy as much.

The Market Equilibrium Price The Market Equilibrium Price

The triangular area of forgone social surplus caused by inefficient pricing is called the deadweight loss.