Chapter 14Economic EfficiencySlide 3Slide 4Competitive Markets and Economic EfficiencyReinterpreting the Demand CurveReinterpreting the Supply CurveThe Efficient Quantity of a GoodSlide 9Measuring Market GainsConsumer surplusSlide 12Slide 13Producer surplusSlide 15Total Benefits and EfficiencySlide 17Inefficiency and Deadweight LossPrice CeilingPrice FloorMonopoly and Market PowerSlide 22Taxes and Deadweight LossesDeadweight Loss From an Excise TaxA Tax on LandExternalitiesThe Private Solution to a Negative ExternalitySlide 28Government SolutionsSlide 30Taxing a Negative ExternalitySlide 32Regulation and Tradable PermitsDealing with a Positive ExternalitySlide 35Slide 36Chapter 14Economic Efficiency andthe Competitive IdealECONOMICS: Principles and Applications, 4e HALL & LIEBERMAN, © 2008 Thomson South-Western2Economic Efficiency•Is achieved when–Cannot rearrange the production or allocation of goods–to make one person better off–without making anybody else worse off•Pareto improvement–At least one person is better off, and no one is harmed3Economic Efficiency•Economic efficiency–achieved when every possible Pareto improvement is exploited.•Side payment –action will benefit one group and harm another4Economic Efficiency•Greater total gains than total losses–Side payment–Transferred from the gainers to the losers–Pareto improvement5Competitive Markets and Economic Efficiency•Demand curve–The maximum price someone would be willing to pay for each unit–Value of the last unit of the good consumed•Supply curve–The minimum price a seller must get in order to supply that unit –Additional cost of each unit of the good supplied6Reinterpreting the Demand Curve1 2 3 4 5$25$23$21$19$17DemandFloFlo (again)JoeBoZoePriceNumber of Lessons per WeekWhile the first lesson is worth $25 to some consumer (Flo) . . .and the third is worth $21.the second lesson is worth only $23 . . .•Figure 1 The Value of Another Guitar Lesson7Reinterpreting the Supply CurveThe smallest cost for this first lesson is $13 . . .and $17 for the third.but it's $15 for the second . . .1 2 3 4 5$21$19$17$15$13McCollumSupplyMartin (again)GibsonMartin (again)MartinPriceNumber of Lessons per Week•Figure 2 The Cost of Another Guitar Lesson8The Efficient Quantity of a Good•Whenever the demand curve is higher than the supply curve–the value of one more unit to some consumer is greater than its additional cost to some producer•Efficient quantity of a good–Market demand curve and market supply curve intersect–Automatically achieved in perfect competition at equilibrium9The Efficient Quantity of a Good$25$23$21$19$17$15$13Demand1. Joe would pay as much as $23 for the second lesson . . .FloFloJoeMcCollumMartinZoeSupply2. while Martin would offer it for as little as $15.1 5MartinGibsonMartin3. Four lessons is the equilibrium and the efficient quantity.PriceNumber of Lessons per Week2 3 4Bo•Figure 3 Efficiency In The Market For Guitar Lessons10Measuring Market Gains•Consumer surplus - difference between–Value of a unit of a good to the buyer–And what the buyer actually pays for it•Market consumer surplus–Total consumer surplus enjoyed by all consumers in a market.–Total area under the demand curve, above the market price11Consumer surplus1 2 3 4 5$25$23$21$19$17DemandThe total shaded area is market consumer surplus.PriceNumber of Lessons per Week1. When market price is $19, someone (Flo) gets $6 in consumer surplus on the first lesson . . .3. and someone (Flo again) gets $2 in consumer surplus on the third.2. someone (Joe) gets $4 in consumer surplus on the second . . .Assumed Market Price•Figure 4a Consumer Surplus in a Small Market for Guitar Lessons12Consumer surplus4,000$19MarketPricePriceNumber of Lessons per WeekIn a market with many buyers, market consumer surplus is the entire area under the demand curve and above the market price.Demand•Figure 4b Consumer Surplus in a Large Market for Guitar Lessons13Measuring Market Gains•Producer surplus - difference between–Price the seller gets–And the additional cost of providing it•Market producer surplus–Total producer surplus enjoyed by all sellers in a market.–Total area above the supply curve, below the market price14Producer surplus1 2 3 4$21$19$17$15$13SupplyPriceNumber of Lessons per WeekThe total shaded area is market producer surplus.3. and someone (Gibson) gets $2 on the third.1.When market price is $19, someone (Martin) gets $6 in producer surplus on the first lesson . . . 2. someone (Martin again) gets $4 in producer surplus on the second . . .Assumed Market Price5•Figure 5a Producer Surplus from Selling Guitar Lessons15Producer surplus4,000$19In a market with many sellers, market producer surplus is the entire area above the market supply curve and below the market price.PriceNumber of Lessons per WeekSupplyMarket Price•Figure 5b Producer Surplus from Selling Guitar Lessons16Total Benefits and Efficiency•Total benefits–Sum of consumer surplus and producer surplus •Efficient market–Total benefits are maximized•Equilibrium quantity–Maximizes total benefits17Total Benefits and Efficiency$194,000SDEquilibrium PricePrice•Figure 6 Total Benefits in a Competitive Market for Guitar LessonsNumber of Lessons per WeekEquilibrium Quantity18Inefficiency and Deadweight Loss•Price ceiling–May benefit consumers as a group–Reduces total net benefits in the market •Price floor–May benefit producers as a group–Reduces total net benefits in the market•Deadweight loss–The loss of potential benefits due to a deviation from the efficient outcome19Price Ceiling$194,000S$156,0002,000DPrice1. A price ceiling of $15 . . .3. It also decreases market quantity, taking away some consumer surplusABC2. transfers surplus from producers to consumers.4 . . . . and some producer surplus, neither of which are transferred to anyone.$23•Figure 7 The Inefficiency of a Price CeilingdeadweightlossNumber of Lessonsper Week20Price Floor3. It also decreases market quantity, taking away some consumer surplus$194,000S$213,000DPrice1. A price floor of $21 . . .FGH2. transfers surplus from consumers to producers.$175,0004 . . . . and some producer surplus, neither of which are transferred to anyone.•Figure 8 The Inefficiency of a Price Floordeadweightloss21Monopoly and Market Power•Monopoly and imperfectly competitive markets–Firms charge a single price on all units–P>MC–Price is too
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