Chapter 6 Market Efficiency and Government Intervention

The Benefits of Market-Based Exchange Why do we trade??  Make both consumers and producers better off. How can we measure the gains from exchange?  Consumer Surplus  Producer Surplus

Consumer Surplus The benefit that a consumer gets from an additional unit of a good is equal to the difference between:  What a consumer is willing and able to pay (marginal benefit) Demand curve graphs the marginal benefit  What they actually have to pay (the actual price).

Figure 6.1(a) The Relationship Between Market Price and Marginal Benefit

Consumer Surplus Marginal consumer  Indifferent between buying and not buying a good.  Receive no consumer surplus

Consumer Surplus This “extra satisfaction” you get can be graphed…  Area under the demand curve and above the market price

Examples How would each of the following impact consumer surplus?  A decrease in input prices?  A decline in technology?  An increase in the number of firms in the area?  A per unit tax on the good sold? Inverse relationship between price and consumer surplus

Producer Surplus The benefit that a producer gets from producing an additional unit of a good is equal to the difference between:  The price they actually receive  What it costs to produce an additional unit of output (marginal cost). Represented by the supply curve

Producer Surplus What is the benefit for producers??  Get a higher price than hoped for Can see this benefit with the supply curve.  Area above the supply curve and below the market price

Figure 6.3 Producer Surplus in a Competitive Market

Gains from Exchange

Application: Taxes and Competitive Equilibrium A per-unit tax adds a fixed dollar amount to each unit of a good sold.  Per-unit tax shifts the supply curve left

How find?? Find equilibrium price Supply shifts left in the amount of the tax Find new equilibrium Find point of second equilibrium on ORGINAL supply curve  Shows the actual price realized by firm or equilibrium price – tax = point in question Difference between points determines how much of tax you pay

Figure 6.4 The Effect of a Per-Unit Tax on Laptop Sales