ECON 1 Lecture Notes - Lecture 7: Economic Surplus, Opportunity Cost, Laissez-Faire

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greyrabbit304

27 Apr 2018

School

Santa Clara University

Department

Economics

Course

ECON 1

Professor

Cameron- Loyd

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ECON 1: Chapter 7 Notes

Focus Questions:

• What is consumer surplus? How is it related to the demand curve?

• What is producer surplus? How is it related to the supply curve?

• Do markets produce a desirable allocation of resources? Or could the market outcome be improved

upon?

Welfare Economics

▪ Recall, the allocation of resources refers to:

▪ how much of each good is produced

▪ which producers produce it

▪ which consumers consume it

▪ Welfare economics studies how the allocation of resources affects economic well-being.

▪ First, we look at the well-being of consumers.

Willingness to Pay (WTP)

• A buyer’s willingness to pay for a good is the maximum amount the buyer will pay for that good.

• WTP measures how much the buyer values the good.

WTP and the Demand Curve

• Q: If price of iPhone is $200, who will buy an iPhone, and what is quantity demanded?

• A: Anthony & Flea will buy an iPhone, Chad & John will not.

o Hence, Qd = 2 when P = $200.

o Derive the demand schedule:

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Consumer Surplus (CS)

• Consumer surplus is the amount a buyer is willing to pay minus the amount the buyer actually pays:

CS = WTP – P

The lesson: Total CS equals the area under the demand curve above the price, from 0 to Q.

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Document Summary

Willingness to pay (wtp: a buyer"s willingness to pay for a good is the maximum amount the buyer will pay for that good, wtp measures how much the buyer values the good. Consumer surplus (cs: consumer surplus is the amount a buyer is willing to pay minus the amount the buyer actually pays: The lesson: total cs equals the area under the demand curve above the price, from 0 to q. Cs with lots of buyers & a smooth d curve. Cost and the supply curve: cost is the value of everything a seller must give up to produce a good (i. e. , opportunity cost), example: costs of 3 sellers in the lawn-cutting business. Includes cost of all resources used to produce good, including value of the seller"s time. Ps with lots of sellers & a smooth s curve. In a market economy, the allocation of resources is decentralized, determined by the interactions of many self-interested buyers and sellers.

Related Questions

True or False:

1. Consumer surplus is the buyer's willingness-to-pay minus the seller's opportunity cost of production.

2. If your willingness-to-pay for a hamburger is $3 and you paid $2, then your consumer surplus is $5.00

3. The opportunity cost of production for a seller includes the implicit cost of the seller's time.

4. The height of the supply curve at a selected quantity is the seller's opportunity cost of producing that marginal unit.

5. Total surplus (total well-being) is the seller's cost of production minus the buyer's willingness-to-pay.

6. The competitive market equilibrium outcome is efficient because it allocates the produced output to the buyers who place the highest value on the good

7. Producer surplus is the area above the supply curve and below the price.

8. The competitive market equilibrium outcome maximizes total surplus (total well-being)

9. Producing and consuming more of a good will always increase the total surplus(total well-being).

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17. Which of the following is a determinant of supply?

A. Tastes and preferences

B. Price of a complementary good

C. Consumer income

D. Technology

18. A market is in equilibrium:

A. provided there is no surplus of the product

B. at all prices above that shown by the intersection of the supply and demand curves

C. if the amount producers want to sell is equal to the amount consumers want to buy

D. whenever the demand curve is downsloping and the supply curve is upsloping.

19. If the market price is above the equilibrium price:

A. A shortage will occur and producers will produce more and lower prices

B. A surplus will occur and producers will produce less and lower prices

C. A surplus will result and consumers will bid prices up

D. Producers will make extremely high profits

20. The market system automatically corrects a surplus condition in a competitive market by:

A. Raising the price of the commodity in question while increasing the quantity demanded

B. Raising the price of the commodity in question while decreasing the quantity demanded

C. Reducing the price of the commodity in question while increasing the quantity demanded

D. Reducing the price of the commodity in question while decreasing the quantity demanded

21. The price elasticity of demand measures:

A. buyer responsiveness to price changes.

B. the extent to which demand curve shifts as incomes change.

C. the slope of the demand curve.

D. how far business executives can stretch their fixed costs

22. The elasticity of demand for a product is likely to be greater:

A. if the product is a necessity, rather than a luxury good.

B. the greater the amount of time over which buyers adjust to a price change

C. the smaller the proportion of one's income spent on the product.

D. the smaller the number of substitute products available.

23. Market failure is said to occur whenever:

A. private markets do not allocate resources in the most economically desirable way

B. prices rise

C. some consumers who want a good do not obtain it because the price is higher than they are willing to pay

D. government intervenes in the functioning of private markets.

24. A negative externality or spillover cost occurs when:

A. firms fail to achieve allocative efficiency.

B. firms fail to achieve productive efficiency.

C. the price of the good exceeds the marginal cost of producing it.

D. the total cost of producing a good exceeds the costs borne by the producer

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Purpose of Assignment

In Week 2, students will employ the supply and demand model to develop consumer surplus and producer surplus as a measure of welfare and market efficiency. Students learn about welfare economics--the study of how the allocation of resources affects economic well-being--and will discover that under most circumstances, the equilibrium price and quantity is also the one that maximizes welfare. Students will review different sources of externalities and a variety of potential cures and will see that while markets are usually a good way to organize economic activity, governments can sometimes improve market outcomes. Students will see how the U.S. government raises and spends money and the difficulty of making a tax system both efficient and equitable.

Assignment Steps

Scenario: Imagine you have been assigned the responsibility of preparing a paper for the governor's next economic conference.

Prepare a 1,050-word paper addressing the following:

Explain why equilibrium of supply and demand is desirable.

Explain the following concepts using the concept of consumer and producer surplus:

Efficiency of markets

Costs of taxation

Benefits of international trade

Discuss how externalities may prevent market equilibrium and the various government policies used to remedy the inefficiencies in markets caused by externalities.

Analyze the difference between the efficiency of a tax system and the equity of a tax system as it refers to the costs imposed on taxpayers using the benefits principles.

Cite a minimum of three peer-reviewed sources, not including your textbook.

Format consistent with APA guidelines.

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ECON 1 Lecture Notes - Lecture 7: Economic Surplus, Opportunity Cost, Laissez-Faire

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