USC ECON 205 - Costs, Producer, Market Efficiency, and Taxes

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ECON 205 1st Edition Lecture 4Outline of Last Lecture - Effects of Taxes on Buyers and SellersOutline of Current Lecture - Market Allocation of Resources- Customer’s Willingness to Pay- Free Market vs. Government Intervention- Costs of TaxationCurrent LectureWelfare Economics- Allocation of resources iso How much is producedo Who the producer iso Who the consumer isWillingness to Pay (WTP) and the Demand Curve- Each point on demand curve is a consumer; represents consumer’s WTP- WTP is the consumer’s value for the good- Consumer surplus- amount buyer is willing to pay minus the amount the buyer actually payso CS= WTP – P- CS is the area between the Price and Demand curve from zero to Q- And increase in price causes a decrease in consumer surplusCost and the Supply Curve- Cost is all resources, including the value of the seller’s time, that go into producing a good- Producer Surplus (PS)- the amount a seller is paid for a good minus the cost of producing the goodo PS= P- costo A.k.a. profit- Total PS is the area above the supply curve and under the price from zero to Q- Total Surplus= CS + PSo Total gains from trade in a marketo Value to buyers minus the cost to sellersMarket Allocation of Resources- In a market economy, allocation is decentralizedo Determined by interaction between self-interested buyers and sellers- Total surplus is a measure of society’s well-beingo Measures the efficiency of market allocation- Efficiency maximizes total surplus and occurs when…o Goods are purchased by those who value them most highlyo Goods are produced by producers with the lowest costso Efficiency comes with market equilibrium- If you force overproduction, will create negative surplusAdam Smith and the Invisible Hand- When individuals act in their own self-interest, they end up benefiting the whole of society and are, therefore, led by an invisible handFree Market vs. Government Intervention- Laissez faire- government doesn’t interfere with the marketo “allow them to do” in French- to allocate resources efficiently and maximize total surplus (as an outside source), would need toknow every seller’s cost and every buyer’s WTP for each good in the entire economyo impossibleo this is why Central Planning doesn’t workCosts of Taxation- Deadweight Loss (DWL)- fall of total surplus resulting from a market distortion, such as a taxo Happens because it decreases the quantity

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