Consumer Surplus: The net benefit buyers enjoy from purchasing and consuming the good. Height of Market Demand Curve: Reflects the benefit a buyer enjoys from consuming a specific unit of the good. Consumer Surplus: The net benefit buyers enjoy from purchasing and consuming the good; the benefit each buyer enjoys from consuming the good less what each buyer must pay. Area Beneath the Demand Curve Lying Above the Price: Reflects all the net benefits buyers enjoy, the consumer surplus, from purchasing and consuming the good. Consumer and Producer Surplus Applications Producer Surplus: The net benefit sellers enjoy from producing and selling the good Height of Market Supply Curve: The seller’s opportunity cost of providing a specific unit of the good. Producer Surplus: The net benefit sellers enjoy from producing and selling the good; what each seller receives from the sale of the good less the opportunity cost each seller incurs by providing it. Area above the Supply Curve Lying beneath the Price: Reflects all the net benefit sellers enjoy, the producer surplus, from producing and selling the good. Review Consumer and Producer Surplus

 Equilibrium P C = 2.40 P F = 2.00   Review: Tax Incidence P ($/gallon) Q (thousands of gallon per day) P* = 2.10 Q* = 8, P C ** = 2.40 P F ** = 2.00 Q** = 7,500 D S The point on the demand curve is the equilibrium price from the perspective of consumers. Start at the no tax equilibrium and move left until the vertical gap between the demand and supply curves equals the amount of the tax. The point on the supply curve is the equilibrium price from the perspective of firms. 8,000=8,000 Tax:P F = P C  Tax P F = P C .40 Quantity demanded determined by P C Quantity supplied determined by P F P = ,500 = 7,500 Quantity DemandedQuantity Supplied The associated quantity is the new equilibrium quantity. The price from the perspective of consumers increases, but by less than the full amount of the tax. The equilibrium quantity decreases. The price from the perspective of firms decreases, but by less than the full amount of the tax. The burden of the tax is shared between consumers and firms. First, the no tax equilibrium. Question: How can we quantify the burden borne by consumers and firms?

Producer Surplus – Area above the Supply Curve Lying beneath the Price: Reflects all the net benefit sellers enjoy, the producer surplus, from producing and selling the good. Consumer Surplus – Area Beneath the Demand Curve Lying Above the Price: Reflects all the net benefits buyers enjoy, the consumer surplus, from purchasing and consuming the good. = 75 = 750 = 25 = 2,  7,500 ½ .30   7,500 ½ .10  500 P ($/gallon) P* = 2.10 $.40 P C ** = 2.40 P F ** = 2.00 D S B A D F 2,325 × 365 6,700 B: C: D: E: Market for Gasoline Q (thousands of gallon per day) Q* = 8,000Q** = 7,500 C E Consumer Surplus Producer Surplus Government Surplus Total Surplus Before TaxAfter TaxChange A+B+CALose B+C D+E+FFLose D+E NothingB+DGain B+D A+B+C+D+E+FA+B+D+FLose C+E  $2,325 thou  $775 thou +$3,000 thou  $100 thou Calculate the Areas: Burden borne by consumers and firms = $3,100 Benefit reaped by government = $3,000 Dead weight loss (Excess burden) = $100 Annual per capita loss of consumer surplus:  $125 Question: By how much are consumers hurt? Question: By how much are firms hurt? Question: By how much are governments helped? Question: How much total surplus is lost? = 2, , = 2, = 775 2, = 3, = 100

Q P D 300 S Benefits of Student Tutoring Andy Kate Dan Liz Meg Ned Costs Tutorof Tutoring Kim John Adam Lisa Walt Beth Height of Market Demand Curve: Reflects the benefit a buyer enjoys from consuming a specific unit of the good. Height of Market Supply Curve: The seller’s opportunity cost of providing a specific unit of the good. Total Surplus: The total net benefits to society as a whole that the provision of a good provides. Total Surplus and Efficiency Review Strategy: Four scenarios

Q P D 300 S Benefits of Student Tutoring Andy Kate Dan Liz Meg Ned Costs Tutorof Tutoring Kim John Adam Lisa Walt Beth Which student values tutoring by the most? Andy who values tutoring by $275. Which tutor incurs the lowest costs of tutoring? Beth who incurs cost of $25 Net benefit of the first tutor to society as a whole equals $250 The vertical gap between the market demand and supply curves. Question: From the perspective of society as a whole does it make sense for Beth to tutor? Answer: Yes. Scenario 1: One Tutor is Provided

Q P D 300 S Benefits of Student Tutoring Andy Kate Dan Liz Meg Ned Costs Tutorof Tutoring Kim John Adam Lisa Walt Beth Which student values tutoring by the second most? Kate who values tutoring by $225. Which tutor incurs the second lowest costs of tutoring? Walt who incurs cost of $75 Net benefit of the second tutor to society as a whole equals $150 The vertical gap between the market demand and supply curves. Question: From the perspective of society as a whole does it make sense for Walt to tutor? Answer: Yes. Scenario 2: A Second Tutor Is Provided

Q P D 300 S Benefits of Student Tutoring Andy Kate Dan Liz Meg Ned Costs Tutorof Tutoring Kim John Adam Lisa Walt Beth Which student values tutoring by the third most? Dan who values tutoring by $175. Which tutor incurs the third lowest costs of tutoring? Lisa who incurs cost of $125 Net benefit of the third tutor to society as a whole equals $50 The vertical gap between the market demand and supply curves. Question: From the perspective of society as a whole does it make sense for Lisa to tutor? Answer: Yes. Scenario 3: A Third Tutor Is Provided

Q P D 300 S Benefits of Student Tutoring Andy Kate Dan Liz Meg Ned Costs Tutorof Tutoring Kim John Adam Lisa Walt Beth Which student values tutoring by the fourth most? Liz who values tutoring by $100. Which tutor incurs the fourth lowest costs of tutoring? Lisa who incurs cost of $200 Net benefit of the third tutor to society as a whole equals negative $100 The vertical gap between the market demand and supply curves. Question: From the perspective of society as a whole does it make sense for Adam to tutor? Answer: No. Scenario 4: A Fourth Tutor Is Provided

Q P D 300 S Benefits of Student Tutoring Andy Kate Dan Liz Meg Ned Costs Tutorof Tutoring Kim John Adam Lisa Walt Beth TutorsTotal Surplus 1$ = $ = $  100 = $350 Summary A tutor should be provided whenever the benefits exceed the costs; that is, whenever the demand curve lies above the supply curve. A tutor should not be provided whenever the costs exceed the benefits; that is, whenever the supply curve lies above the demand curve. Total Surplus: The total net benefits to society as a whole that the provision of a good provides. Question: What is the efficient number of tutors? Efficiency: Whenever total surplus, the total net benefit to society as a whole, is maximized. 3

Generalization: Total Surplus and Efficiency Efficiency Guidelines Q P D S When the demand curve lies above the supply curve. Benefits Exceed Costs Costs Exceed Benefits Efficient Quantity  The benefits of providing a unit exceed its costs.  More of the good should be provided When the supply curve lies above the demand curve.  The costs of providing a unit exceed its benefits.  Less of the good should be provided Height of Market Demand Curve: Reflects the benefit a buyer enjoys from consuming a specific unit of the good. Height of Market Supply Curve: The seller’s opportunity cost of providing a specific unit of the good. Question: What is the equilibrium quantity? Efficiency: Whenever total surplus, the total net benefit to society as a whole, is maximized. The efficient quantity appears to be the equilibrium quantity. P*

Markets and Efficiency Q P D S Q* Q P D S Q** P* P F ** P C ** No TaxTax Question: Do markets always lead to efficiency? Efficiency: Whenever total surplus, the total net benefit to society as a whole, is maximized. Answer: No. Tax Total surplus Dead weight loss: Loss of total surplus as a consequence of the tax. There are other factors which also cause markets to fail. We will explore them in later lectures.