Surplus and Welfare: Example 1. The efficiency of competitive markets. Surplus and Welfare: Example 1. Surplus and Welfare: Example

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1 Surplus and Welfare: xample 1 The efficiency of competitive markets onsumer Willingness Firm ost pay X TL 1 Firm TL 2 Y TL 8 Firm TL 4 Z TL 7 Firm TL 6 T TL 5 Firm TL 9 ach consumer will consume at most 1 unit. ach firm can produce at most 1 unit. Surplus and Welfare: xample 1 1 If you had 1 unit of the good, which consumer would you give it? 1 If 1 unit of the good must be produced, which firm would you ask produce it? 2 If you had a 2 nd unit of the good, which consumer would you give it? 2 If a 2 nd unit of the good must be produced, which firm would you ask produce it? Surplus and Welfare: xample 1 3 If you had a 3 rd unit of the good, which consumer would you give it? 3 If a 3 rd unit of the good must be produced, which firm would you ask produce it? 4 If you had a 4 th unit of the good, which consumer would you give it? 4 If a 4 th unit of the good must be produced, which firm would you ask produce it? 1

2 Surplus and Welfare: xample 2 uyer WtP Seller ost F 5 F 35 G 4 G 4 H 3 H 45 Surplus and Welfare: xample 2 Find the equilibrium price and quantity. ompute the consumers and producers. The government sets a minimum price of 65. ompute the market price and quantity and the consumers and producers. The government sets a price ceiling of 29. ompute the market price and quantity and the consumers and producers. onsumer Surplus and Producer Surplus onsumer Surplus: xample 1 (cont d) onsumer is the amount that a buyer is willing pay for a good minus the amount she actually pays for it. onsumer, measures the benefit buyers participating in a market. Producer is the amount a seller is paid for a good minus the seller s cost. It measures the benefit sellers participating in a market. 2

3 onsumer Surplus: xample 1 (cont d) onsumer : xample 1 (cont d) of lbum $1 John s willingness pay 8 Paul s willingness pay 7 George s willingness pay 5 Ringo s willingness pay of lbums onsumer Surplus: xample 1 (cont d) onsumer Surplus: xample 1 (cont d) The area below the demand curve and above the price measures the consumer in the market. The area below the demand curve and above the price measures the consumer in the market. of lbum $1 John s consumer ($2) of lbum $1 John s consumer ($3) (a) = $8 8 7 (b) = $7 8 7 Paul s consumer ($1) 5 5 Total consumer ($4) of lbums of lbums 3

4 How does the price affect the consumer? How does the price affect the consumer? (a) onsumer Surplus at (b) onsumer Surplus at P 2 = onsumer =P 2 Initial consumer onsumer new consumers P 2 dditional consumer initial consumers Q 2 F What does consumer measure? Producer Surplus: xample 3 onsumer is the amount that buyers are willing pay for a good minus the amount they actually pay for it and it measures the net benefit that buyers receive from a good as the buyers themselves perceive it. 4

5 Producer Surplus: xample 3 Producer Surplus: xample 3 Producer Surplus: xample 3 The area above the supply curve and below the price measures the producer in the market. Producer Surplus: xample 3 The area above the supply curve and below the price measures the producer in the market. (a) = $6 of House Painting $9 8 (b) = $8 of House Painting $9 8 Total producer ($5) 6 5 Grandma s producer ($1) 6 5 Grandma s producer ($3) Georgia s producer ($2) of Houses Painted of Houses Painted 5

6 How does the price affect the producer? (a) Producer Surplus at How does the price affect the producer? (b) Producer Surplus at P 2 dditional producer initial producers P 2 F = Producer =P 2 Initial producer Producer new producers Q 2 What does producer measure? onsumer and Producer Surplus at the Market quilibrium Producer is the amount a seller is paid for a good minus the seller s cost and it measures the benefit sellers participating in a market. quilibrium price onsumer Producer quilibrium quantity 6

7 valuating the Market quilibrium The fficiency of the quilibrium Three Insights oncerning Market Outcomes Free markets allocate the supply of goods the buyers who value them most highly, as measured by their willingness pay. Free markets allocate the demand for goods the sellers who can produce them at least cost. Free markets produce the quantity of goods that maximizes the sum of consumer and producer. Value buyers ost sellers ost sellers Value buyers quilibrium quantity Value buyers is greater than cost sellers. Value buyers is less than cost sellers. Inefficient allocation of the resources: xample 4 Inefficient allocation of the resources: xample 5 p p q Q q Q 7