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Berkeley ECON 100A - Applying the Competitive Model

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Lectures 13 and 14Key topicsConsumer’s well-beingMeasuring consumer well-beingGraph individual's CSBruce Springsteen’s Gift to His Fans ScalpersSpringsteen’s pricingEffect of a price change on CSFall in Consumer Surplus from Roses as Price RisesSolved problemProducer surplusMeasuring PS using supply curveInterpreting producer surplusCommon measure of well-beingKey: Surplus maximized at competitive outputFundamental Economic Measures: Deadweight loss (DWL)DWL of Agricultural Price SupportsDWL of a Target Price PolicyDeadweight loss of ChristmasDWL of Christmas (cont.)Government policiesWe examine 2 types of policiesRegulation of taxicabsExplanations for taxi regulationEffects of limiting number of cabsOccupational licensesZoning FTC opposes Internet bans that harm competitionExisting regulationsEntry barriersGovernment barriers: MilkGovernment barriers: FactoriesTrucking regulationMotor Carrier Act of 1980State regulationExit barriersWelfare effects of a price ceilingTariff effectsEffect of a Tariff (or Quota)Interpretation of DWLFree trade versus a quotaRent-Seeking: TradeRent-Seeking: Theft1 Consumer welfare2 Producer welfare 3 Competition maximizes welfare 4 Policies that shift supply curves 5 Policies that create a wedge between supply and demand6 Comparing both types of policies: ImportsApplying the Competitive ModelLectures 13 and 14Key topics1. consumer surplus2. producer surplus3. competition maximizes surplus4. policies that shift supply curves5. policies that create a wedge between supply and demand6. comparing both types of policies: importsConsumer’s well-being• using a consumer's utility function is not practical for 2 reasons:• we don't know individuals' utility functions• we cannot compare utilities across individuals• instead, we measure consumer welfare in dollars• easier to measure than utility• can compare dollars across individualsMeasuring consumer well-being• consumer surplus (CS) from a good =• benefit a consumer gets from consuming it (in $'s) minus its price• how much more you'd be willing to pay than you did pay for a good• demand curve contains this information • demand curve reflects a consumer's marginal willingness to pay: amount a consumer will pay for an extra unitGraph individual's CSarea under individual's demand curve and above market price up to quantity that consumer buysConsumer Surplus54321543210CS2=$1CS1=$2E1=$3 E2=$3 E3=$3Price =$3abcq, Magazines per weekp, $ per magazineDemand(a) David’s Consumer SurplusConsumer Surplusp1p, $ pertrading cardDemandExpenditure, EConsumersurplus, CSMarginal willingness topay for the last unit of outputq1q, Trading cards per yearBruce Springsteen’s Gift to His Fans • 2002 average rock concert ticket price was $51• $75 that Bruce Springsteen and the E Street Band charged for their concerts was below the market clearing price• when tickets went on sale at the Bradley Center in Milwaukee, 9,000 tickets sold in the first 10 minutes and all were gone after 20 minutesScalpers• some tickets were available from scalpers, ticket brokers, or on the Internet at higher prices• a web site offered tickets for Dallas American Airlines Center concert for $540 to $1,015• according to a survey, the average price of a resold ticket at the Philadelphia First Union Center concert was $280Springsteen’s pricing• says he set the price relatively low to give value to his fans• (in addition, he may have helped promote his new album)• assuming that he could have sold all the tickets at $280, he gave almost $3 million of consumer surplus to his Philadelphia fans — double the ticket revenue for that concertEffect of a price change on CS• price increase reduces CS• could be caused by• leftward shift of supply curve• new government taxFall in Consumer Surplus from Roses as Price RisesSolved problem• 2 linear demand curves go through the initial equilibrium e1• one demand curve is less elastic than another at e1• for which demand curve will a price increase cause largest consumer surplus loss?Producer surplus1. supplier's gain from participating in a market 2. difference between amount for which good sells and minimum amount necessary for seller to produce good3. minimum amount a seller must receive to be willing to produce is firm's avoidable production cost (shut-down rule)Measuring PS using supply curve• producer surplus for a competitive firm or market:• area above supply curve (MC curve), below price line, up to quantity soldInterpreting producer surplusCommon measure of well-beingKey: Surplus maximized at competitive output• producing more or less than competitive level reduces surplus• competition maximizes surplus because p = MC in competitive equilibriumFundamental Economic Measures:Deadweight loss (DWL)drop in welfare due to loss of surplus by one group that is not offset by a gain to another group from an action that alters a market equilibriumC + EorBDWL of Agricultural Price Supports• Government imposes a binding price floor on production of wheat• To support the price, the government buys up the excess supply• Graphically identify the change in consumer and producer welfare and the deadweight loss of the policyDWL of a Target Price Policy• Government sets at target price ptfor wheat• If the market price is less than pt, government pays farmers the difference• Graphically, determine the change in consumer and producer welfare and find the deadweight loss• Can we determine which policy has a smaller deadweight loss?Deadweight loss of Christmas• efficient gift: recipient values gift as much as it cost giver• DWL = price of gift – valueto recipient• according to Yale undergraduates, DWL is between 10% and 33% of value of giftsDWL of Christmas (cont.)• gifts from friends and "significant others" are most efficient• noncash gifts from members of extended family are least efficient (1/3 of value is lost)• grandparents, etc. are most likely to give cash• DWL is large• U.S. holiday expenditures are $40 billion per year • DWL of gift-giving holidays is between a 1/10 and 1/3 as large as estimates of DWL from inefficient income taxation“Boy, you have to be the hardest person in the world to buy for.”Government policies• government policies tend to lower welfare in competitive markets:• welfare is maximized in competitive equilibrium, so new equilibrium has lower welfare“Yes, we do have the authority


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Berkeley ECON 100A - Applying the Competitive Model

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