4.2.10 Calculating Total Surplus: Numerical Example

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From the course by University of Pennsylvania

Microeconomics: The Power of Markets

ratings

University of Pennsylvania

Microeconomics: The Power of Markets

ratings

We make economics decisions every day: what to buy, whether to work or play, what to study. We respond to markets all the time: prices influence our decisions, markets signal where to put effort, they direct firms to produce certain goods over others. Economics is all around us. This course is an introduction to the microeconomic theory of markets: why we have them, how they work, what they accomplish. We will start with the concept of scarcity and how specialization according to comparative advantage helps us achieve more than we could alone. Next we model a marked using the tools of Supply and Demand and learn what well working markets accomplish and what their limit are. We end by exploring the impact of government intervention on perfect markets. Examples are taken from everyday life, from goods and services that we all purchase and use. We will apply the theory to current events and policy debates through weekly exercises. These will empower you to be an educated, critical thinker who can understand, analyze and evaluate market outcomes.

From the lesson

Understanding Markets: Elasticities, Market Surplus, Efficiency, and Equity

There is a lot of terminology this week. We will introduce of the concept of elasticity of demand that measures the responsiveness of quantity demanded to a change in the price of a good. We will explore the relationship between change in price and revenue or sales and how elasticities can help us predict whether a decrease in price will increase or decrease revenue. We then introduce other elasticities of note: cross price elasticity, income elasticity and elasticity of supply. We end the week by exploring the great accomplishment of markets: maximizing the size of the pie or the total benefit to society.

4.2.5 T.S. at a Quantity Greater Than Equilibrium Quantity4:02

4.2.6 T.S. at a Quantity Smaller Than Equilibrium Quantity4:47

4.2.7 Efficiency & Equity: Conclusion1:40

4.2.8 Price Ceiling5:04

4.2.9 Price Floors: The Case of Minimum Wage5:28

4.2.10 Calculating Total Surplus: Numerical Example4:31

4.2.11 Price Ceilings: A Numerical Example5:20

Meet the Instructors

Rebecca Stein
Senior Lecturer
Economics

[MUSIC]

I'd like us to practice,

what we've learned in terms of market equilibrium finding consumer surplus,

producer surplus, and total surplosu with a numerical example.

So I have two simple equations here.

The top one is of course a supply equation.

We can see that it's a supply equation because of the positive relationship

between quantity and price.

So it's an upward sloping line, and

we have a demand equation, and we can see that is a demand equation because

of the negative relationship between price and quantity.

So it's downward slopping line, and let's start by finding the equilibrium.

And the equilibrium is of course where is supply is equal to demand, so

all we have to do is set these two equations equally to each other.

So 10 plus 2Q is equal to 70 minus Q, or

moving this Q on that side we have that3Q is equal to 60 or

the equilibrium quantity is equal to 60 over 3, which is 20.

So we found equilibrium quantity, this quantity here where supply

equals demand and we said that is the quantity of 20,

and to find the equilibrium price we just have to take this quantity of 20 and

plug it either into the demand equation or the supply equation

to find the equilibrium price, and plug in 20 into here.

We have 2 times 20 is 40 plus 10 is equal to 50 and

I always like to double check it with the other equation 70 minus 20 is 50 as well.

So the equilibrium price Is equal to $50, so

we have an equilibrium price, we have an equilibrium quantity, and

now we can go ahead and we can find consumer surplus and producer surplus.

So consumer surplus is the area underneath the demand curve and above the price.

Let's go ahead and calculate that.

The intercept here is 70, so this is the intercept, and

finding the consumer surplus is therefore just finding the area of a triangle, and

a reminder an area of a triangle is the height times the base divided by 2.

And the height here is 17 minus 50, which is 20.

The base is equal to 20,

so when we calculate consumer surplus it

is 20 times 20 divided by 2 or equal to $200.

So, the amount of benefit that goes to the consumer's

from this market is equal to $200.

What about producer surplus?

The intercept here is equal to 10, so we have to go ahead and

figure the area of this triangle, right?

The area underneath the price and above the supply curve and

again it's height times base divided by 2.

The height here is 50 minus 10 which is 40.

The base is still 20, so we want to go ahead and calculate producer surplus.

It's going to be 40 Times 20 divided by 2,

which is equal to $400.

So we've gone ahead and we calculated producer surplus and

we calculated consumer surplus, and therefore the total surplus

that's generated in the economy is just the sum of the two.

200 plus 400 is equal to $600.

Another way of saying that is that given a supply equation and

a demand equation the market is 600, I'm sorry.

Given our supply equation and our demand equation our society

is $600 happier with trade than without trade.

So this is the total surplus that is generated in the economy

from having a market in this good and trading 20 units.

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