ECONOMICS: Principles and Applications 3e HALL & LIEBERMAN © 2005 Thomson Business and Professional Publishing Economic Efficiency and the Role of Government

Figure 1 The Marginal Benefit from Guitar Lessons $25 $23 $21 $19 $17 Demand Flo Flo (again) Joe Bo Zoe Price Number of Lessons per Week While the first lesson is worth $25 to some consumer (Flo)... and the third is worth $21. the second lesson is worth only $23...

Figure 2 The Marginal Cost of Guitar Lessons The smallest cost for this first lesson is $13... and $17 for the third.but it's $15 for the second $21 $19 $17 $15 $13 McCollum Supply Martin (again) Gibson Martin (again) Martin Price Number of Lessons per Week

Figure 3 Efficiency in the Market for Guitar Lessons $25 $23 $21 $19 $17 $15 $13 Demand 1.Joe would pay as much as $23 for the second lesson... Flo Joe McCollum Martin Zoe Supply 2.while Martin would offer it for as little as $ Martin Gibson Martin 3.Four lessons is the equilibrium and the efficient quantity. Price Number of Lessons per Week 234 Bo

Figure 4 Consumer Surplus in a Small and a Large Market for Guitar Lessons $25 $23 $21 $19 $17 Demand The total shaded area is market consumer surplus. (a) Price Number of Lessons per Week 1.When market price is $19, someone (Flo) gets $6 in consumer surplus on the first lesson... 3.and someone (Flo again) gets $2 in consumer surplus on the third. 2.someone (Joe) gets $4 in consumer surplus on the second... Assumed Market Price

Figure 4 Consumer Surplus in a Small and a Large Market for Guitar Lessons 4,000 $19 Market Price (b) Price Number of Lessons per Week In a market with many buyers, market consumer surplus is the entire area under the demand curve and above the market price. Demand

Figure 5 Producer Surplus from Selling Guitar Lessons 1234 $21 $19 $17 $15 $13 Supply (a) Price Number of Lessons per Week The total shaded area is market producer surplus. 3.and someone (Gibson) gets $2 on the third. 1.When market price is $19, someone (Martin) gets $6 in producer surplus on the first lesson... 2.someone (Martin again) gets $4 in producer surplus on the second... Assumed Market Price 5

Figure 5 Producer Surplus from Selling Guitar Lessons 4,000 $19 In a market with many sellers, market producer surplus is the entire area above the market supply curve and below the market price. Price (b) Number of Lessons per Week Supply Market Price

Figure 6 Total Net Benefits in a Competitive Market for Guitar Lessons $19 4,000 S D Equilibrium Price Price Equilibrium Quantity

Figure 7 Why Price Ceilings and Price Floors Are Inefficient $19 4,000 S $15 6,0002,000 D Price 1. A price ceiling of $ It also decreases market quantity, taking away some consumer surplus A B D E C 2.transfers surplus from producers to consumers and some producer surplus, which are not transferred to anyone. $23 (a)

Figure 7 Why Price Ceilings and Price Floors Are Inefficient 3.It also decreases market quantity, taking away some consumer surplus $19 4,000 S $21 3,000 D Price 1. A price floor of $21... A B D E C 2.transfers surplus from consumers to producers. $17 5, and some producer surplus, which are not transferred to anyone.

Figure 8 Government Infrastructure and Output per Worker Low Quality of Infrastructure MediumHigh Average Output per Worker 2,000 6,000 10,000 14,000 $18,000

Figure 9 The Welfare Loss from Monopoly 1.A monopoly charges a higher price than a competitive market... 3.The result is a welfare loss... 4.from not producing the efficient quantity, at point E. Number of Lessons per Week Dollars E 2,500 $22 $19 4,000 D MR MC 2.and produces a lower quantity.

Figure 10 Regulating a Natural Monopoly B $15 $29 A C MC $60 LRATC 50,000 DMR 85, ,000 Number of Households Served Dollars Unregulated monopoly "Fair rate of return" production F Efficient production (requires subsidy)

Figure 11A Tax on Producers to Correct a Negative Externality D S $1.00 A MSC C $0.50 B (a) Millions of Gallons per Period Dollars 2. The efficient quantity is here... 3.but the equilibrium quantity is here. 4.In equilibrium, the welfare loss is triangle ABC. 1.This market has a negative externality of $0.50 per unit.

Figure 11A Tax on Producers to Correct a Negative Externality D $1.00 $0.50 B (b) Millions of Gallons per Period Dollars $1.30 $0.80 S Before Tax S After Tax 6. shifts the supply curve upward... 7.and moves the equilibrium to the efficient quantity. 5.A tax per unit on producers, equal to the negative externality per unit, A (b)

Figure 12 A Subsidy for Consumers to Correct a Positive Externality 800,0001,000,000 D S $100,000 MSB C A $30,000 2.The equilibrium quantity is here but the efficient quantity is here. 4. In equilibrium, the welfare loss is triangle ABC. (a) Number of Degrees per Year Dollars 1.This market has a positive externality of $30,000 per college degree. B

Figure 12 A Subsidy for Consumers to Correct a Positive Externality S 800,0001,000,000 $100,000 B A $30,000 Number of Degrees per Year Dollars (b) $114,000 $84,000 D Before Subsidy D After Subsidy 6.shifts the demand curve upward... 5.A subsidy per unit for consumers equal to the positive externality per unit... 7.and moves the market to the efficient quantity

Figure 13 Pure Private, Pure Public, and Mixed Goods More Nonexcludable More Excludable More Rival More Nonrival Mixed GoodPure Private GoodMixed Good Pure Public Good food, clothing, housing sold-out movie crowded highway newspaper software movie with empty seats uncrowded highway downloaded music file cable television urban park national defense, legal system police and fire protection crowded city streets fish in international waters