Transcript Market Equilibrium, Consumers` Surplus, and producers

AAEC 3315
Agricultural Price Theory
Chapter 11
Market Equilibrium, Consumers’ Surplus, and
Producers’ Surplus
Objectives

To learn:

How Consumers’ and Producers’ Surplus are
determined in a market .
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How Consumers’ and Producers’ Surplus change
with changing market conditions.
Market Equilibrium
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Earlier, we saw that market
equilibrium occurs when the
quantity of a good offered by
sellers at a given price equals
the quantity buyers are
willing and able to purchase
at that same price.
P
S
P*
That is, market equilibrium
occurs at price equals P* and
quantity equals Q*.
D
Q*
Q
Consumers’ Surplus
Consumers’ Surplus is defined as the
difference between what the consumer would
be willing to pay and what the consumer
actually has to pay.
Consumers’ Surplus
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Note that for buying Q1 units,
consumer is willing to pay
P1/unit of product.
For buying Q2 units, consumer
is willing to pay P2/unit of
product.
But at market equilibrium, the
consumer buys Q3 units of the
product for P3/unit of product.
Thus, at the equilibrium price of
P3/unit of product, consumer
actually ends up paying less
than what he is willing to pay.
This difference is called the
Consumers’ Surplus.
P
S
P1
P2
P3
D
Q1
Q2
Q3
Q
Consumers’ Surplus

In general,
Consumers’ Surplus
can then be
calculated as the area
under the demand
curve and above the
price level, i.e., the
shaded area.
P
S
P
D
Q
Q
Producers’ Surplus
Producers’ Surplus is defined as the dollar
amount by which firms benefit by producing
their profit maximizing level of output.
In other words, Producer Surplus is price of a
good minus the marginal cost of producing it.
Producers’ Surplus

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Note that for selling Q1 units,
producer is willing to accept
P1/unit of product.
For selling Q2 units, producer is
willing to accept P2/unit of
product.
But at market equilibrium, the
consumer sells Q3 units of the
product at P3/unit of product.
Thus, at the equilibrium price of
P3/unit of product, producer
actually ends up receiving more
than what he is willing to
accept.
This difference is called the
Producers’ Surplus.
P
S
P3
P2
D
P1
Q1
Q2
Q3
Q
Producers’ Surplus

In general,
Producers’ Surplus
can then be
calculated as the
area above the
supply curve and
below the price
level, i.e., the
shaded area.
P
S
P1
D
Q1
Q
Consumers’ and Producers’ Surplus

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Consumers’ Surplus is given
by the area under the
demand curve and above the
price level.
Producers’ Surplus is given
by the area above the supply
curve and below the price
level.
So the Total Surplus is the
sum of Producers’ Surplus
and the Consumers’ Surplus,
and is the amount by which
the Society is benefited.
P
S
P1
D
Q1
Q
Per Unit Production Tax
Impacts on Consumers’ and Producers’ Surplus

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Per unit production tax shifts the
supply curve from S to S1.
Resulting in a change in the
equilibrium price from P1 to P2 and
equilibrium quantity from Q1 to Q2.
Before tax CS = abP1
After tax CS = adP2
Tax decreased CS
Before tax PS = cbP1
After tax PS = edP2
Tax decreased PS
Before tax Total Surplus = abc
After tax Total Surplus = ade
Tax decreased Total Surplus
Society overall is worse off due to
the production tax
S1
P
S
a
P2
P1
d
b
e
D
c
Q2 Q1
Q
Increase in Income
Impacts on Consumers’ and Producers’ Surplus
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Increase in income shifts the demand
curve from D to D1.
Resulting in a change in the equilibrium
price from P1 to P2 and equilibrium
quantity from Q1 to Q2.
Initial CS = abP1
Later CS = edP2
Not sure if CS increased or decreased.
Initial PS = cbP1
Later PS = cdP2
Increase in PS
Initial Total Surplus = abc
Later Total Surplus = edc
An increase in Total Surplus
Society overall is better off due to an
increase in consumer income.
P
e
S
a
P2
P1
d
b
D1
D
c
Q1
Q2
Q
Some Other Scenarios
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Review the following scenarios on your own
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Technological development
Increase in population
Decrease in population
Increase in input prices
Decrease in input prices