1.2.8 Consumer and producer surplus

Question 1

Consumer surplus

Answer 1

The difference between the price that a consumer is willing to pay for a good or service and the price that they actually pay (the equilibrium price).

Question 2

Give an example of consumer surplus

Answer 2

For example, if someone was prepared to pay £10 for a good and bought it for £8, there would be a consumer surplus of £2.

Question 3

Producer surplus

Answer 3

The difference between the price that a producer is willing to supply a good/service at and the price that they actually receive for it (the equilibrium price).

Question 4

Give an example of producer surplus

Answer 4

For example, if the equilibrium price of a good is £15 but a supplier would be happy to sell for £10 then the producer surplus would be £5.

Question 5

Producer and consumer surplus on a graph

Answer 5

Consumer surplus – the area below the demand curve and above the equilibrium price line.

Producer surplus – the area above the demand curve and below the equilibrium price line.

Question 6

How will changes in supply and Demand affect Consumer/Producer surplus

Answer 6

A change in price will bring a good closer to or further away from the amount the buyer was willing to pay or the supplier was willing to sell for – and this will change the consumer and producer surpluses.

Question 7

What is the effect of subsidies and indirec taxes on consumer/producer surplus?

Answer 7

They will lead to shifts in the supply curves of goods/services, which cause prices to change. The changes in price lead to an extension or contraction in demand.

Question 8

The benefit of subsidies on consumer/producer surplus

Answer 8

Subsidies encourage increased production and a fall in price, which leads to an increase in demand. So a subsidy shifts the supply curve to the right.

The benefit of a subsidy is received partly by the producer, and partly by the consumer.

The relative amounts gained by producers (producer gain) and consumers (consumer gain) are dependent on the price elasticates of demand and supply. For example:

Question 9

Consumer gain

Answer 9

The fall in the price - they gain by paying less for the good than they would have if there was no subsidy.

Question 10

Consumer burden

Answer 10

The amount of money the consumer loses by paying more for the good then if the tax wasn’t in place.

Question 11

Producer gain

Answer 11

The extra revenue they gain from the government that they can keep.

Question 12

Producer burden

Answer 12

The amount the producer loses out on by paying some of the revenue to the government.

Question 13

The effect of indirect taxes on consumer/producer surplus

Answer 13

Taxes increase the price of a good, which leads to a reduction in demand. Taxation shifts the supply curve to the left.

As with subsidies, taxation has an impact on both the producer and the consumer of a good. The relative proportion borne by producers and consumers is dependent on the price elasticities of demand and supply. For example:

The more price inelastic the demand curve is, the greater the tax burden for the consumer.

The more price elastic the demand curve is, the greater the tax burden for the producer.