Consumer and Producer Surplus

Consumer Surplus The difference between the price that a consumer is prepared to pay and the actual price paid Related to the value we place on items Linked to the degree of utility Useful concept in analysing welfare gains and losses as a result of resource allocation Emphasis on the MARKET demand – of those in the market there are some who are willing to pay higher prices than the market price

Consumer Surplus These 15 consumers get 15 x £4 of consumer surplus Price (£) Market Price = £5 20 consumers willing to pay £5 15 Consumers WILLING to pay £9 These 15 consumers get 15 x £4 of consumer surplus 9 Total utility = value represented by blue and gold area 5 Blue area is amount paid to acquire good. Gold area = total consumer surplus D = Marginal Utility 15 20 Quantity Demanded

Producer Surplus Difference between the market price received by the seller and the price they would have been prepared to supply at Price received – linked to factor cost + element of normal profit Producer surplus = abnormal profit

Producer Surplus Price (£) S 10 6 35 60 Quantity Supplied Market price = £10 At £10, suppliers willing to offer 60 for sale 10 Total Revenue = blue area £10 x 60 = £600 6 Some suppliers would have offered 35 for sale at £6: Producer surplus = 35 x £4 = £140 Gold area = Producer surplus 35 60 Quantity Supplied

Consumer Surplus D Price Quantity Consumer Surplus Maximum Willingness to Pay for Qo Po What is paid Qo

Change in Consumer Surplus: Price Increase D Po Qo New Consumer Surplus Original Consumer Surplus Loss in Surplus: Consumers paying more P1 Q1 Loss in Surplus: Consumers buying less Quantity

Producer Surplus S Price Quantity Producer Surplus Po What is paid Minimum Amount Needed to Supply Qo Qo

Consumer and Producer Surplus Price Quantity S Consumer Surplus Po Producer Surplus D Qo

Loss in Efficiency Too High of Price (Price Floor) Quantity Deadweight Loss Lost Consumer Surplus S New Consumer Surplus PH New Producer Surplus Po Lost Producer Surplus D QL Qo

Loss in Efficiency Too Low of Price (Price Ceiling) Quantity Deadweight Loss Lost Consumer Surplus S New Consumer Surplus Po Lost Producer Surplus PL New Producer Surplus D QL Qo

Loss in Efficiency Taxation STax Price Quantity Tax S New Consumer Surplus Lost Consumer Surplus Deadweight Loss PD Tax Revenues Po Lost Producer Surplus PS New Producer Surplus D QL Qo

Size of Deadweight Loss The deadweight loss of the tax will depend upon two factors: The size of the tax The reduction in the quantity sold The reduction in the quantity sold will depend upon the elasticity of demand and supply The more elastic demand or supply is the larger the deadweight loss will be If either demand or supply is price inelastic then the deadweight loss will small and could be zero if perfectly inelastic (no change in the quantity sold and consumed)

Loss in Efficiency Subsidy Price S Gain in Producer Surplus New Consumer Surplus Subsidy PS SSub New Producer Surplus Subsidy Cost Po Gain in Consumer Surplus Deadweight Loss PD D Qo QH Quantity