2.4 Consumer and Producer Surplus

• Consumer Surplus


  The value that consumers gain from consuming a good or service over and above the price paid
• Consumer Surplus


  The extra amount that a consumer is willing to pay for a product above the price that is actually paid
• There is a relationship between the size of consumer surplus and the price charged for a good


  If the price of a good increases, this will reduce the overall size of consumer surplus, and affect (reduce) the welfare that society receives from consuming the good
• Producer Surplus


  The difference between the price a producer is willing to accept to supply a good or service and what is actually paid
• When will a firm choose to stop supplying goods?

  1. The final firm in the market willing to supply, will stop supplying at the point when the cost of producing their final pizza is higher than the price they can sell it for

  2. The cost of producing this final unit of output is known as the Marginal Cost
• Marginal Cost


  The cost of producing an additional unit of output
• The threshold at which a firm will decide it is not profitable to produce is the point at which the price received by the firm reaches the cost to the firm of producing the last unit of the good
• The supply curve in a competitive market therefore reflects the marginal cost
• Producer Surplus

  The surplus earned by firms above the minimum that would have kept them in the market. It is the raison d'etre of firms
• Raison d'etre


  A French expression commonly used in English, meaning "reason for being" or "reason to be"
• There is a relationship between the size of the producer surplus and the price charged for a good


  If the price increases, this will raise the overall size of the producer surplus
• We can interpret the sum of producer and consumer surplus in a market as the net (total) welfare that society as a whole gains from the production and consumption of a particular good or service
• It could be argued that efficient resource allocation is achieved when total welfare (consumer + producer surplus) is maximised