Transcript 9-49 CS & PS (some repitition)

ECONOMICS
What does it mean to me?
Part V:
•Consumer Surplus-Producer Surplus
•Gains from Trade
CONSUMER SURPLUS
and
PRODUCER SURPLUS
Whenever a transaction
occurs in the marketplace,
both consumers and
producers benefit.
But how
much do
they
benefit?
Suppose I am willing to pay $4 each for 10
widgets.
However, the price is $1.50 EACH.
P
6
5
4
D
$2.50
3
This results in
CONSUMER
SURPLUS,
which is the
difference
between D and P
$4.00
- 1.50
$2.50
x 10
2
1
0
P
Price
$25.00
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
P
So, Consumer Surplus is the TOTAL
BENEFIT consumers receive from having a
market in the good.
$4.00
6
- 1.50
5
$2.50
4
D
$2.50
3
2
1
0
P
x 10
$25.00
Price
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
Now, let’s graph this problem using an
economist’s demand curve.
The equation for this line would be: P = 4 - .25Q
If Q=0, then P=__
P
P = 4 - .25 (0)
6
P=4-0
5
P=4
4
If P=0, then Q=__
3
0 = 4 - .25Q+ .25Q
.25Q = 4
2
.25 .25
1
Q = 16
0
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
Y = mx + b
or
Q
a
Q
16
+
P
4
=1
How to
get .25
x/a + y/b = 1
+
P
b
=1
Can be rewritten as
P
4
4
P
Q
=
1-
=
Q
14 16
4
16
4
1/4
P = 4-
P =
1
4
Q
4
The area betweenthe demand ($4.00) and the
price ($1.50) is the CONSUMER SURPLUS.
Mathematically, P < 4 - .25Q, P > 1.50, Q > 0
P
6
Area of a triangle = 1/2bh
5
Consumer Surplus = 1/2 (10 x 2.50) =
4
$12.50
3
2
1
0
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
So….how much do
producers benefit from
this transaction?
Suppose that a firm is willing to sell the good
for $.50 but the price is $1.50 for 10 widgets.
PRODUCER
SURPLUS is the
difference between
supply curve and
the price.
P
6
5
4
3
Price
2
1
$1.00
0
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Supply (willing to
sell cost)
Q
Let’s graph the supply curve on the old graph.
P = .15Q
P
6
If the price is set at 1.50, then
1.50 = .15Q
.15
5
10 = Q
4
3
2
1
0
.15
S
Price
D
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
Remember the area of a triangle = 1/2bh, so…..
1/2 (10 x 1.50) = $7.50
P
6
PRODUCER SURPLUS
5
4
3
2
1
0
=
S
Price
D
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
In this case, both consumers and producers
gain:
CS + PS = 12.50 + 7.50 = $20.00
P
6
TOTAL BENEFIT TO SOCIETY
5
4
3
2
1
0
S
Price
D
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
Now, let’s suppose a tax of $.80 is added to the
price of gasoline. This adds to the cost of
producing the widgets.
P
6
If 0 widgets, then P = 0 + .80 = .80
If 10 widgets, then P = 1.50 + .80 = 2.30
5
4
3
2
1
0
S1
S
Price
D
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
This changes our point of equilibrium.
What happens to consumer surplus?
What happens to producer surplus?
P
6
5
4
What does the pink rectangle represent?
The green triangle represents
DEADWEIGHT loss, or the amount of sales
you give up with the higher price.
S1
3
2
1
0
TAX REVENUE
S
Price
D
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
What is the new Quantity?
P
Demand
P = 4 - .25Q
Supply
P = .15Q
Supply w/tax
P = .15Q + .80
4-.25Q = .15Q +.80
4-.25Q+.25Q = .15Q+.25Q+.80
4 - .80 = .40Q +.80 - .80
3.20 = .40Q
6
.40
5
4
.40
8=Q
S1
S
P = .15(8)
2
Price
+ .80
1
D
P = 2.00
3
0
(8, 2)
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
Consumers pay: $2 per unit, including the
tax…..
P
6
Producers receive after they pay the tax:
$2 - .80 = $1.20
5
4
3
S1
(8, 2)
S
2
1
0
Price
D
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
What is the height for the new Consumer
Surplus triangle?
P
6
4 - 2.00 = 2.00 * 8 * 1/2 = $8.00 new CS
(compared to $12.50 old CS)
5
4
3
2
1
0
S1
S
Price
D
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
What is the height for the new Producer
Surplus triangle?
1.20 = h
P
6
8=b
1.20 * 8 * 1/2 =
$4.80 new PS
5
(compared to $7.50 old PS)
4
S1
3
2
1
0
S
Price
D
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
So…..using the equation 1/2bh (area of a
triangle)
1/2 * 8 * 1.70 = $8.00 = New CS
1/2 * 8 * .80 = $4.80 = New PS
P
6
5
4
3
2
1
0
.80 * 8 = $6.40 = Tax Amount
8.00 + 4.80 + 6.40 = $19.20 Total Benefit
(compared to $20.00 old TB)
S1
S
Price
D
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
Compare the New Total
Benefit of $19.20 to the Old
Total Benefit of $20.00.
Do excise taxes benefit
society?
Economists do not support
taxes which do not benefit
society, such as excise taxes.
Good taxes include: property
taxes, income taxes, and
estate taxes.
So….who pays the $.80 ?
Consumers pay: $ .50
Producers pay: $ .30
In this case, consumers pay most (BUT NOT ALL) of
the tax. Tax incidence depends on the elasticity of
demand and the elasticity of supply. In short,
whomever is less flexible in adjusting to changes in
price will pay more of the tax.
Consumers avoid paying the whole of the tax by
buying less of the product at a lower quantity.
GAINS FROM TRADE:
Consumer Surplus = 1/2 * 8 * (4 - 2) = $8.00
Producer Surplus = 1/2 * 8 * (1.20 - 0) = $4.80
P
6
5
4
3
2
1
0
Tax Revenue = $. 80 * 8 = $6.40
GAINS FROM TRADE = 8 + 4.80 + 6.40 = $19.20
Deadweight Loss = 20.00 - 19.20 = $ .80
S1
S
Price
D
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
LUMP-SUM TAXES: a tax paid equally by all
regardless of actions
*ex: poll taxes in Britain
*does not distort incentives (i.e. home improvements
would create a higher property tax, so some might not
improve to avoid taxes)
*does not cause substitution of untaxed goods (excise
taxes)
*takes a higher percentage from lower income people
*better than other taxes at promoting economic efficiency.
PER-UNIT SUBSIDY:
**Marginal subsidies on production will shift the supply curve
to the right until the vertical distance between the two supply
curves is equal to the per unit subsidy;
P
6
5
4
3
2
1
0
**when other things remain equal, this will decrease
price paid by the consumers (which is equal to the new
market price) and increase the price received by the
producers. (click)
S
S1
Price
D
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Q
EXAMPLE:
Even though water is
essential for life and
diamonds are not,
water is cheap and
diamonds are
expensive?
Why?
The answer has to do
with the consumer
surplus and producer
surplus for both
products.
Consider the following graphs for CS and PS:
Diamonds
S
P
Water
Inelastic
supply
curve
Elastic
supply
curve
D
P
S
D