Richard Damra Thursday, January 31st, 2013
Econ 1B03 – Chapter 7
Revisiting the Market Eqilibirium
Do the equilibrium price and quantity maximize the total welfare of buyers and sellers?
Market equilibrium reflects the way markets allocate scarce resources.
Whether the market allocation is desirable can be addressed by welfare economics
The study of how the allocation of resources affects economic well being
Buyers and sellers receive benefits from participating in the market.
Equilibrium in the market maximizes these benefits
Every buyer in an economy is only willing to pay up to a certain amount for a good or service.
Willingness-to-pay: the maximum amount a buyer will pay for a good. Also called the
reservation price. Measures the value the buyer places on the good.
When a buyer actually plays less than he/she is willing to pay, they enjoy a benefit. We define:
Consumer surplus: The buyer’s willingness-to-pay for a good minus the amount they actually
Market demand curve depicts consumers’ willingness-to-pay
o Depicts how consumers value the good.
Suppose the market price of a good is $50
We can illustrate total benefits: Consumer surplus, CS. It is the area under the demand curve
above the selling price. In other words the area of a triangle.
In the above graph the CS(Consumer Surplus) is $11 250. Richard Damra Thursday, January 31st, 2013
How a Price Change Affects Consumer Surplus
Producer Surplus: Amount that a seller is paid for a good minus the seller’s cost measures
the benefit to sellers participating in the market.
Willingness-to-sell: Lowest price a supplier will take to produce a good and offer it for sale.
o Cost is a measure of the sellers willingness-to-sell.
Just as consumer surplus is related to the demand curve, producer surplus is closely related to
the supply curve.
o The supply curve reflects a producer’s costs (more on costs in Chapter 13)
The area below the selling price and above the supply curve measures the producer surplus in a
Again suppose the selling price is $50
o Richard Damra