Chapter 4: Consumer and Producer Surplus

Question 1

How does the market move towards the equilibrium price and quantity? (4)

Answer 1

• through price mechanisms
• Prices rise when there is a shortage
• Fall when there is a surplus
  AKA INVISIBLE HAND

Question 2

Without market failures, is the equilibrium that the market arrives efficient or not? what if there are market failures?

Answer 2

• without, it is efficient
• with, it is not

Question 3

Government policies that affect a “good” market (taxes, price setting, etc) will lead us away from efficient equilibrium. Is this good or bad? (2)

Answer 3

• well we still want these government policies
• but we need to know how inefficient they are so we can determine if the benefits of the policies outweigh the costs

Question 4

Government policies that affect a “bad” market (taxes, regulation, etc) will lead us away from inefficient equilibrium. Is this good or bad? (2)

Answer 4

• well we want to know how inefficient the bad market is to know whether or not we should interfere with the market
  like how much are these taxes pulling away from the economy?

Question 5

How do we measure inefficiency in the market?

Answer 5

consumer and producer surplus

Question 6

Why do we use consumer and producer surplus to measure inefficiency in the market? (3)

Answer 6

• calculation of “gains from trade”
• The inefficiency from the market failures and/or government intervention in the market reduces the gains from trade
• allows us to compare the effects of different policies

Question 7

What is the maximum price?

Answer 7

• a consumer’s willingness to pay for a good at which they would buy the good

Question 8

What is individual consumer surplus?

Answer 8

• net gain to an individual buyer from the purchase of a good

Question 9

What is consumer surplus also thought as?

Answer 9

• the difference between the buyer’s willingness to pay and the price paid

Question 10

What is TOTAL consumer surplus?

Answer 10

• sum of the individual consumer surpluses of all buyers of a good
  note that consumer surplus refers to both individual and total consumer surplus

Question 11

On the graph, how do we determine consumer surplus?

Answer 11

area below demand curve but above price paid

Question 12

What does a fall in the price of a good do to consumer surplus? (2)

Answer 12

• a gain to consumers who would have bought at the original price
• a gain to consumers who are persuaded to buy at the lower price

Question 13

What is a potential seller’s cost?

Answer 13

• the lowest price at which he or she is willing to sell a good
  not profit!!

Question 14

What is individual producer surplus?

Answer 14

• the net gain to a seller from selling a good

Question 15

What is individual producer surplus equal to?

Answer 15

• difference between the price received and the seller’s cost

Question 16

What is total producer surplus?

Answer 16

• the sum of the individual producer surpluses of all sellers of a good

Question 17

How can you find total producer surplus on a graph?

Answer 17

• area above the supply curve but below that price

Question 18

When the price of a good rises, producer surplus increases through what two channels? (2)

Answer 18

• the gains of those who would have supplied the good even at the original, lower price
• the gains of those who are induced to supply the good by the higher price

Question 19

Putting it all together: What is total surplus generated in a market? (2)

Answer 19

• total net gain to consumers and producers from trading in the market
• sum of producer and consumer surplus

Question 20

What do the concepts of consumer and producer surplus help us understand?

Answer 20

• why markets are an effective way to organize economic activity

Question 21

Total surplus graph

Answer 21