Chapter 7: Consumers, Producers, and the Efficiency of Markets
Principles of Economics, 5th Edition
N. Gregory Mankiw
Page 1
1.
Introduction
a.
So far, our analysis has been positive (what is) rather than normative (what
should be).
b.
In this chapter, we take up welfare economics, which is the study of how the
allocation of resources affects economic well being. P. 137.
c.
Mankiw continues to argue that markets are usually a good way to organize
economic activity.
2.
Consumer Surplus Measures the Benefit to Buyers of Participating in the Market
a.
Def: Willingness to pay is the maximum amount that a buyer will pay for a
good. P. 138.
i.
Table 1: Four Possible Buyers’ Willingness to Pay. P. 138.
ii.
Def: Consumer surplus is a buyer’s willingness to pay minus the
amount the buyer actually pays. P. 139.
b.
Using The Demand Curve To Measure Consumer Surplus
i.
The area below the demand curve and above the price measures the
consumer surplus in a market.
ii.
Figure 1: The Demand Schedule and the Demand Curve. P.
140.
iii.
Figure 2: Measuring Consumer Surplus with the Demand
Curve. P. 141.
c.
How A Lower Price Raises Consumer Surplus
i.
Existing consumers and
ii.
New Consumers
d.
What Does Consumer Surplus Measure?
i.
Consumer surplus, the amount that buyers are willing to pay for a
good minus the amount that they actually pay for it, measures the
benefit that buyers receive from a good as the buyers themselves
perceive it.
ii.
Figure 3: How the Price Affects Consumer Surplus. P. 142.
3.
Producer Surplus Measures the Benefit to Sellers of Participating in the Market.
a.
Cost And The Willingness To Sell
i.
Def: Cost is the value of everything a seller must give up to
produce a good. P. 143.
ii.
Def: Producer surplus: the amount a seller is paid for a good
minus the seller’s (incremental) cost of providing it. P. 144.
iii.
Table 2: The Costs of Four Possible Sellers. P. 143.
b.
Using The Supply Curve To Measure Producer Surplus
i.
The area below the price and above the supply curve measures the
producer surplus in a market.
(1)
Producer surplus only considers incremental costs, so is not
Chapter 7: Consumers, Producers, and the Efficiency of Markets
Principles of Economics, 5th Edition
N. Gregory Mankiw
Page 2
c.
4.
the same thing as profit that has to also take into
consideration fixed costs.
(2)
However, if the advantage of the lower cost firms can be
bought and sold (good managers or fertile land) then the
value of that will be bid up and the producer surplus will
disappear.
ii.
Figure 4: The Supply Schedule and the Supply Curve. P.
144.
iii.
Figure 5: Measuring Producer Surplus with the Supply
Curve. P. 145.
How A Higher Price Raises Producer Surplus
i.
Existing suppliers and
ii.
New suppliers.
iii.
Figure 6: How the Price Affects Producer Surplus. P. 146.
Market Efficiency
a.
CS and PS are the basic tools that economists use to study the welfare of
buyers and sellers in a market.
b.
The Benevolent Social Planner
i.
Def: Efficiency is the property of a resource allocation of
maximizing the total surplus received by all members of society.
P. 147.
ii.
Def: Equity is the fairness of the distribution of well being among
the members of society. P. 148.
iii.
Efficiency is easier to evaluate than equity.
c.
Evaluating The Market Equilibrium
i.
Three insights about market outcomes:
(1)
Markets allocate the supply of goods to the buyers who
value them the most.
(2)
Markets allocate output to the lowest cost producers.
(3)
Markets produce the quantity of goods that maximizes the
sum of consumer and producer surplus.
ii.
Figure 7: Consumer and Producer Surplus in the Market. P.
148.
iii.
Figure 8: The Efficiency of the Equilibrium Quantity. P. 149.
iv.
Case Study: Should There be a Market in Organs? P. 150.
(1)
Many economists believe that there would be large benefits
to allowing a free market in organs.
v.
In the News: Ticket Scalping, P. 151.
vi.
In the News: The Miracle of the Market. P. 153.
(1)
This is an important article as it points out all the invisible
activities that have to occur to make a Thanksgiving dinner
Chapter 7: Consumers, Producers, and the Efficiency of Markets
Principles of Economics, 5th Edition
N. Gregory Mankiw
Page 3
possible.
5.
Conclusion: Market Efficiency And Market Failure
a.
To conclude that markets are efficient, we made several assumptions about
how markets work:
i.
they are competitive and
ii.
there are no external effects.
b.
Market failure exists with
i.
Market power and
ii.
Externalities.
6.
Summary