2.2 - Supply & Demand 2: Markets & Welfare Flashcards
What are the two main components of welfare economics?
Answer: Consumer surplus and Producer surplus
What is the consumer surplus? How is consumer surplus calculated?
Represents the difference between a buyer’s willingness to pay and actual price paid
Answer: Consumer surplus = Willingness to pay - Price
What does the market demand curve represent?
Answer: The various quantities buyers would be willing and able to purchase at different prices
What is the producer surplus? How is producer surplus calculated?
Difference between price received by sellers and cost of production
Answer: Producer surplus = Price - Costs
Where is producer surplus measured on a supply and demand graph?
Answer: The area above the supply curve and below the price
What is the formula for total surplus?
Answer: Total surplus = Consumer surplus + Producer surplus
When does economic efficiency occur?
Answer: When resource allocation maximizes total societal surplus
What are the three ways free markets tend to allocate resources efficiently?
- Allocate goods to buyers with highest willingness to pay
- Allocate demand to sellers with lowest production costs
- Produce quantity that maximizes sum of consumer and producer surplus
What is the main principle behind Laissez Faire Economics?
Answer: Minimal intervention in perfectly functioning markets based on market efficiency principle
What effect does a tax have on the quantity traded in a market?
Answer: It reduces the quantity traded as price increases
What is deadweight loss?
Answer: The reduction in total economic surplus that results from a market distortion (like a tax)
How does a tax affect consumer surplus?
Answer: It reduces consumer surplus - part is lost to tax revenue and part becomes deadweight loss
What happens to producer surplus after a tax is implemented?
Answer: It decreases - part goes to tax revenue and part becomes deadweight loss
What does a tax create between buyer’s price and seller’s price?
Answer: A wedge (price difference) between what buyers pay and what sellers receive
What does welfare economics study?
- Studies how resource allocation affects economic well-being
- economic well-being is measured by surplus
- both buyers and sellers can benefit from taking part in the market
