ECON101 Lecture Notes - Lecture 9: Market Failure, Deadweight Loss

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2 Aug 2016
Class 9: Consumer/Producer Surplus
Consumer and Producer Surplus Continued (in a free market)
Reminder – total surplus is (value buyers are willing to pay) – (value sellers are willing to
sell for)
Market Efficiency: maximizing surplus
oBuyers who place the highest value on this good are the ones who purchase the
oThe sellers who have the lowest cost are the sellers of the good
oThe equilibrium quantity is what maximizes total surplus
Equity: distributing the income in an equal way
oThere are laws to help with that
oIt is a discussion of what is fair
Total surplus = CS + PS (reminder)
To find if the market is efficient:
oWould moving the eq. quantity help?
Don’t want the cost to exceed the value to the buyers (increase in
Reducing the quantity will mean that there is still room to increase the
surplus (so you still have one, but you could get a better surplus)
oIs the CS at it’s max? (area below demand above price)
oIs the PS at it’s max? (area above supply below price)
The equilibrium quantity maximizes total surplus
oGoods are produced by producers with lowest cost
oMaximizes CS and PS
Free markets allocate the supply of goods to the buyers who value them most highly,
and the demand of goods to the sellers who can produce them at the least cost
oMaxes the sum of the CS and PS
Lesson from this chapter: leave the markets alone if they are working fine (no market
failure), as they are most efficient when left alone
If there was a central planner (eg. in a Communist regime) there is less efficiency
oBecause they don’t know every sellers cost and every buyers WTB
Market Power: a single buyer or seller than can influence the market price (eg.
Application – the Cost of Tax (Chapter 8)
oTax can be imposed on buyers or sellers, but that doesn’t make a difference on
how the burden is shared (that depends on elasticity of demand/supply)
oTax reduces the quantity bought and sold
oTax always increases the price buyers pay
Tax revenue is T*Qt (tax times new quantity)
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