 Gain From Participating in Markets  Consumers: gain satisfaction  Producers: gain profit  Marginal Benefit:  The maximum price that a consumer will pay for a certain unit of product  Total Benefit:  The total satisfaction from consuming a product 7.1 Economic Welfare

 The consumer pays $0.50 per slice if getting 12 slices of pizza, but gets more marginal benefit from consuming the previous 11 slices (in particular the first and second slices)  The consumer’s total benefit from eating all pizza slices is the total area under the dotted lines  Total expenditure is the area of the bottom long rectangle Consumer Surplus for an Individual

 Consumer Surplus:  The net benefit, expressed in dollar terms, from buying a product at its market price  Total Benefit – Consumer Expenditure Consumer Surplus

 Producer Surplus:  The difference between the price received from selling each unit of a product and the marginal cost of producing that unit Producer Surplus

 At a market price of $2.50/slice of pizza, producers supply 14 slices of pizza. No producer surplus at this point.  But, for every previous pizza slice produced, price exceed marginal cost, giving a total producer surplus equal to the area of the triangle above the blue line  Total Revenue is the area of the largest rectangle created by the dotted lines Producer Surplus

 If pizza market is perfectly competitive, then at equilibrium price P1 and output of Q1, the requirement of marginal-cost pricing is met (a unit of an item should be produced if the price that consumers are willing to pay for the unit exceeds marginal cost), while consumer surplus and producer surplus are both maximized The Case of Perfect Competition Marginal Benefit Marginal Cost

 Without perfect competition, what happens to producer and consumer surplus?  Consumer surplus becomes producer surplus if collusion occurs  Deadweight Loss:  The net loss in economic welfare that results from a government policy such as the decision to restrict entry into the pizza market  If some pizza makers collude, output gets restricted, and market price for pizza increases When a Market Becomes Uncompetitive

 When output is restricted to Q1 instead of Q2 (equilibrium point), deadweight loss occurs (price also goes up from P1 to P2)  Deadweight loss is the area of the triangle CBF – loss of both consumer and producer surplus – loss of economic efficiency  Area of rectangle P1 P2 C E represents the transfer of consumer surplus to producer surplus (gained by colluding pizza makers) Deadweight Loss