Download Market Equilibrium and Efficiency

Econ 2
1
Instructor:
Richard Carson
Office Hours Sequoyah Hall Room 250
Tuesday 2:00-3:00pm
Wednesday 1:30-2:30pm
Email: [email protected]
Phone: (858) 534-3384
2
TA
Section Time
All Sections Meet
WLH 2205
Office Hour
Location
Office Hours
Zachary Cloyd
W 5pm
Sequoyah 244
T 4-5pm
Th 4-5pm
Denise
Hernandez
Th 8am
Sequoyah 256
T 3:30-5:30pm
Eric Giambattisata
W 4pm
Sequoyah 244
T 11-12pm
Th 11-12pm
Marya Gottlieb
M 9am
Sequoyah 206
M 10:30-12:30pm
Margaret Huang
F 2pm
Sequoyah 256
W 1-2pm
F 1-2pm
Justin Rao
T 7pm
Sequoyah 228
M 10-11am
W 10-11am
3
Text:
Robert H. Frank and Ben S. Bernanke,
Principles of Economics, Second edition,
2004, McGraw-Hill Irwin.
Course website:
http://weber.ucsd.edu/~rcarson/econ2.html
4
To drop or add the course or change
discussion section:
Sequoyah Hall Room 245 8:00 a.m. –
12:00 p.m. and 1:00 p.m. – 4:30 p.m.
5
Exams:
Thursday Feb 2 9:30-10:50 a.m.
Thursday Feb 23 9:30-10:50 a.m.
Friday March 24, 8:00-11:00 a.m.
No one can leave exam room during an
exam
6
Option 1:
25% first exam
25% second exam
50% on final
Option 2:
25% on best of first two exams
75% on final
7
Problem sets:
• Are not required
• Don’t count for your grade
• Are nevertheless a good idea
• Should be done before your discussion
section meets
8
Problem Set 1 (Should be done before
before your discussion section meets
week of Jan 16-20)
Prob # 1a-b-c, pages 188-189.
Prob #4a-b-c, pages 189-190.
9
Comments on taking notes:
(1) Copies of slides posted on course web
page day after lecture.
(2) Private notes are available through AS
Lecture Notes (located by the old student
center over in Revelle College)
10
Chapter 7: Efficiency and
Exchange
A. Producer surplus
11
Employment
opportunity:
landscape services
10 hours per week
cash pay, no benefits
12
Employment
opportunity:
landscape services
10 hours per week
cash pay, no benefits
13
Hourly wage
Number of workers
$4
1
$6
6
$8
40
14
Supply of labor curve
Wage ($ per hour)
$12
$10
$8
$6
$4
$2
$0
0
20
40
60
80
100
Number of workers
15
Supply of labor curve:
to hire a given number of workers
(represented by a point on horizontal axis)
we would have to pay a certain wage
(represented by a point on vertical axis)
16
Height = opportunity cost for that potential
worker
17
If you would be willing to work for $8 and we
pay you $10, then your surplus as a
producer is $2
18
Supply of labor curve
Wage ($ per hour)
$14
$12
$10
$8
$6
$4
$2
$0
0
100
200
300
400
Number of workers
19
Supply of labor curve
Wage ($ per hour)
$14
$12
$10
Surplus of 100th person is $2
$8
$6
$4
$2
$0
0
100
200
300
400
Number of workers
20
Supply of labor curve
Wage ($ per hour)
$14
$12
$10
Surplus of 100th person is $2
$8
$6
Surplus of 50th person is $4
$4
$2
$0
0
100
200
300
400
Number of workers
21
If hire 200 workers and pay each one $10,
total producer surplus is area above
supply curve and below the wage
22
Supply of labor curve
Wage ($ per hour)
$14
$12
$10
$8
$6
$4
$2
$0
0
100
200
300
400
Number of workers
23
Another example: to bring more strawberries
to market, producers could:
• Harvest more intensively
• Cultivate land being used for something
else
• Cultivate less desirable land
24
Price per pound
Supply of strawberries curve
$9
$8
$7
$6
$5
$4
$3
$2
$1
$0
0
50
100
150
Tons of strawberries
25
If this region is a triangle, can find its area
from Area = (1/2) base x height
26
MB MC
Producer Surplus in the Market for Milk
S
Price ($/gallon)
3.00
2.50
2.00
Producer surplus
= $4,000/day
1.50
1.00
D
.50
0
1
2
3
4
5
6
7
8
9
10
11
12
Quantity (1,000s of gallons/day)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
27
MB MC
A.
B.
Chapter 7: Efficiency and
Exchange
Producer surplus
Consumer surplus
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
28
MB MC
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
29
MB MC
`
Price
Number willing to buy
10 cents
112
50 cents
27
$1.00
9
$2.00
2
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
30
MB MC
Demand for coke curve
Price ($ per can)
$2.50
$2.00
$1.50
$1.00
$0.50
$0.00
0
50
100
150
Number willing to buy
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
31
MB MC
Demand curve:
to sell a certain number of units
(represented by a point on horizontal
axis)
we would have to charge a sufficiently
low price (represented by a point on
vertical axis)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
32
MB MC
Height = value of the product to that
potential buyer
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
33
MB MC
If you would be willing to pay 75 cents
and we sell it to you for 50 cents, then
your surplus as a consumer is 25 cents
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
34
MB MC
Demand for coke curve
Price ($ per can)
$2.50
$2.00
$1.50
$1.00
$0.50
$0.00
0
50
100
150
Number willing to buy
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
35
MB MC
Demand for coke curve
Price ($ per can)
$2.50
$2.00
$1.50
Surplus of 40th
buyer is 25 cents
$1.00
$0.50
$0.00
0
50
100
150
Number willing to buy
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
36
MB MC
Demand for coke curve
Price ($ per can)
$2.50
$2.00
$1.50
Surplus of 22nd
buyer is 50 cents
$1.00
$0.50
$0.00
0
50
100
150
Number willing to buy
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
37
MB MC
If 65 people each pay 50 cents, total
consumer surplus is area below
demand curve and above the price
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Companies, Inc. All rights reserved.
38
MB MC
Consumer surplus
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Companies, Inc. All rights reserved.
39
MB MC
If this region is a triangle, can find its area
from Area = (1/2) base x height
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
40
MB MC
Example: Demand for heating oil
2.00
S
1.80
Consumer surplus =
1.60
(1/2) (0.6) (3000) = $900/day
Price ($/gallon)
1.40
1.20
1.00
D
.80
1
2
3
4
5
8
Quantity (1,000s of gallons/day)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
41
MB MC
A.
B.
C.
Chapter 7: Efficiency and
Exchange
Producer surplus
Consumer surplus
Total economic surplus
Total economic surplus in a given market is the
total surpluses of all participants in the
market
If only participants are buyers and sellers, then
total economic surplus is the sum of
producer surplus plus consumer surplus
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
42
MB MC
Economic Surplus in an Unregulated
Market for Home Heating Oil
2.00
Consumer surplus
= $900/day
1.80
S
1.60
Price ($/gallon)
1.40
Producer surplus
= $900/day
1.20
1.00
Without price controls:
•Equilibrium Price = $1.40
•Consumer surplus =
(1/2)(3,000)(.60) = $900/day
•Producer surplus =
(1/2)(3,000)(.6) = 900/day
•Economic surplus = $1,800/day
D
.80
1
2
3
4
5
8
Quantity (1,000s of gallons/day)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
43
MB MC
A.
B.
C.
D.
Chapter 7: Efficiency and
Exchange
Producer surplus
Consumer surplus
Total economic surplus
Applications.
1. Costs of price ceilings
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
44
MB MC
„
The Cost of Preventing
Price Adjustments
Price Ceilings: Do They Help the Poor?
z
An Example
‹A
Price Ceiling for Home Heating Oil
Copyright c 2004 by The McGraw-Hill
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45
MB MC
The Waste Caused by Price Controls
S
2.00
Price Ceiling set at $1.00
Consumer surplus
1.80
1.60
Price ($/gallon)
1.40
1.20
1.00
Producer surplus =
(1/2) (0.2) (1000) =
$100/day
D
.80
1
2
3
4
5
8
Quantity (1,000s of gallons/day)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
46
MB MC
Area of trapezoid = (1/2) x (base_1 +
base_2) x (height)
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Companies, Inc. All rights reserved.
47
MB MC
The Waste Caused by Price Controls
S
2.00
Price Ceiling set at $1.00
Consumer surplus =
(1/2) (1 + 0.8) (1000)
= $900/day
1.80
1.60
Price ($/gallon)
1.40
1.20
1.00
Producer surplus =
(1/2) (0.2) (1000) =
$100/day
D
.80
1
2
3
4
5
8
Quantity (1,000s of gallons/day)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
48
MB MC
The Waste Caused by Price Controls
S
2.00
Price Ceiling set at $1.00
Consumer surplus =
$900/day
1.80
1.60
Lost economic
surplus = (1/2) (0.8)
(2000) = $800/day
Price ($/gallon)
1.40
1.20
1.00
Producer surplus =
$100/day
D
.80
With price controls:
•Producer surplus =
(1/2)(1,000)(.20) = $100/day or a
loss of $800/day
•Economic surplus = $1,000 or a
loss of $800/day
1
2
3
4
5
8
Quantity (1,000s of gallons/day)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
49
MB MC
„
The Cost of Preventing
Price Adjustments
The reduction in economic surplus from
a price ceiling will be underestimated
when
The consumers who receive the product
are not the consumers who value it the
most.
z Consumers take costly actions to enhance
their chances of being served.
z
Copyright c 2004 by The McGraw-Hill
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50
MB MC
When the Pie Is Larger,
Everyone Can Have a Bigger Slice
Surplus with price controls
R
Surplus with income transfers
and no price controls
R
P
P
With price controls set at $1.00 the
economic surplus is $1,000/day
*R = economic surplus received by
rich people
*P = economic surplus received by
poor people
Without price controls & with income
transfers economic surplus is $1,800/day
*R & P have the same share and a
much larger economic surplus
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
51
MB MC
„
„
The Cost of Preventing
Price Adjustments
What types of programs could be used
to help the poor get heating oil that
would be more efficient than a price
ceiling?
Is housing different?
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
52
MB MC
A.
B.
C.
D.
Chapter 7: Efficiency and
Exchange
Producer surplus
Consumer surplus
Total economic surplus
Applications.
1. Costs of price ceilings
2. Effects of taxes
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
53
MB MC
The Market for Potatoes Without Taxes
6
5
Price ($/pound)
S
Total economic
surplus = $9
million/month
4
3
2
1
D
1
2
3
4
5
Quantity (millions of pounds/month)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
54
The Effect of a $1 per
Pound Tax on Potatoes
MB MC
S + tax
S
6
Price ($/pound)
5
How a tax collected
from a seller affects
economic surplus
4
3.50
3
2.50
2
1
D
1
2
3
4
5
2.5
Quantity (millions of pounds/month)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
55
MB MC
Taxes and Efficiency
„
Deadweight Loss
z
The reduction in total economic surplus
that results from the adoption of a policy
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56
The Effect of a $1 per
Pound Tax on Potatoes
MB MC
S + tax
S
6
Price ($/pound)
5
How a tax collected
from a seller affects
economic surplus
4
3.50
3
2.50
2
1
D
1
2
3
4
5
2.5
Quantity (millions of pounds/month)
Copyright c 2004 by The McGraw-Hill
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57
MB MC
The Deadweight Loss Caused by a Tax
S + tax
S
6
Price ($/pound)
5
4
Deadweight loss
caused by tax
3.50
3
2.50
2
1
D
1
2
3
4
5
2.5
Quantity (millions of pounds/month)
Copyright c 2004 by The McGraw-Hill
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58
MB MC
Elasticity of Demand and
the Deadweight Loss from a Tax
Deadweight loss
Deadweight loss
S+T
2.60
S
2.40
2.00
1.40
D1
Price ($/unit)
Price ($/unit)
S+T
S
2.00
1.60
D2
19 24
Quantity (units/day)
21 24
Quantity (units/day)
The greater the elasticity of demand, the
greater the deadweight loss from a tax
Copyright c 2004 by The McGraw-Hill
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59
MB MC
Elasticity of Supply and the
Deadweight Loss from a Tax
Deadweight Loss
Deadweight Loss
S2 + T
S1 + T
S2
S1
2.00
1.65
D
57 72
Quantity (units/day)
Price ($/unit)
Price ($/unit)
2.65
2.35
2.00
1.35
D
63 72
Quantity (units/day)
The greater the elasticity of supply, the
greater the deadweight loss from a tax
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
60
MB MC
Taxes and Efficiency
„
Who Pays A Tax Imposed On Sellers of
a Good?
z
Answer depends on the elasticity of
demand and supply
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
61
MB MC
The Effect of a Tax on Sellers of a
Good with Infinite Price Elasticity of Supply
Price ($/car)
Assume a tax levy of $100 tax/car
$20,100
S + $100
$20,000
S
• Supply shifts to $20,100
• The burden of the tax falls
entirely on the consumer
D
1.9
2.0
Quantity (millions of cars/month)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
62
MB MC
The Effect of a Tax on the
Equilibrium Quantity and Price of Potatoes
Without a tax P = $3/lb
and Q = 3 million lbs/month
S + tax
S
6
Price ($/pound)
5
With a tax of $1/lb
• MC increases by $1/lb
• Supply shifts up by $1
• P = $3.50; Q = 2.5 million
• Consumers and producers share
the burden of the tax equally
• Producers receive $2.50/lb
• Consumers pay $3.50/lb
4
3.50
3
2.50
2
1
D
1
2
3
4
5
2.5
Quantity (millions of pounds/month)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
63
MB MC
A.
B.
C.
D.
Chapter 7: Efficiency and
Exchange
Producer surplus
Consumer surplus
Total economic surplus
Applications.
1. Costs of price ceilings
2. Effects of taxes
3. Effects of subsidies
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
64
MB MC
„
The Cost of Preventing
Price Adjustments
Price Subsidies: Do They Help the Poor?
By how much do subsidies reduce total
economic surplus in the market for bread?
z Assume a small nation imports all its bread
at the world price of $2.00
z
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65
Economic Surplus in a
Bread Market Without Subsidy
Price of bread ($/loaf)
MB MC
Economic surplus
maximized where
MC($2) = MB($2) at
4 million loaves
5.00
4.00
Consumer surplus
= $4,000,000/month
3.00
S
World price = $2.00
1.00
D
2
4
6
8
Quantity (millions of loaves/month)
Copyright c 2004 by The McGraw-Hill
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66
The Reduction in Economic
Surplus from a Subsidy
Price of bread ($/loaf)
MB MC
5.00
•The cost of the subsidy = $6 million
•The benefit of the subsidy = $5 million
•Loss of economic surplus = $1 million
Consumer surplus
= $9,000/month
4.00
Reduction in total
economic surplus =
$1,000,000/month
3.00
S
World price = $2.00
1.00
D
2
4
6
8
Quantity (millions of loaves/month
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
67
MB MC
„
The Cost of Preventing
Price Adjustments
Price Subsidies
z
How could we provide assistance to low
income consumers more efficiently?
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Companies, Inc. All rights reserved.
68
MB MC
z
The Cost of Preventing
Price Adjustments
First-Come, First-Served Policies
‹ Movie
Theatres
‹ Restaurants
‹ Hotels
‹ Airlines
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69
MB MC
Equilibrium in the Market
for Seats on Oversold Flights
Demand for remaining
on the flight
Supply of seats
Price ($/seat)
60
24
33
37
Seats
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70
MB MC
Price ($/seat)
60
Equilibrium in the Market
for Seats on Oversold Flights
First-come, First-served
•Reservation prices =
(60+59+…+24)/37 = $42/passenger
•4 bumped @ $42 each or $168
loss in economic surplus
Supply of seats
27
24
33
37
Seats
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
71
MB MC
„
The Marginal Cost Pricing of
Public Services
Example
z
How much should a city charge for water,
electricity, or some other service?
Copyright c 2004 by The McGraw-Hill
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72
MB MC
The Marginal Cost Curve for Water
Ocean
Cost (cents/gallon)
4.0
Three sources of water
•Spring: 1 million gallons/day
.02 cents/gallon
•Lake: 2 million gallons/day
@ .08 cents/gallon
•Ocean: 4 cents/gallon
Lake
Spring
0.8
0.2
1
3
Water supplied (millions of gallons/day)
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73
MB MC
The Marginal Cost Curve for Water
Ocean
Cost (cents/gallon)
4.0
Assume
•If P = 4 cents/gallon, Q = 4
million gallons
Lake
Spring
Question
•Why should all residents
pay 4 cents per gallon
0.8
0.2
1
3
Water supplied (millions of gallons/day)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
74
MB MC
Market Equilibrium and Efficiency
„
Are markets always efficient and
equitable?
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Companies, Inc. All rights reserved.
75
MB MC
Market Equilibrium and Efficiency
„
A market equilibrium is efficient
If price and quantity take any other than
their equilibrium values, a transaction that
will make at least some people better off
without harming others can always be
found.
z This definition is often referred to as Pareto
efficiency
z
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
76
MB MC
How Excess Demand Creates an Opportunity
for a Surplus-Enhancing Transaction
S
Price ($/gallon)
2.50
• If P = $1 then QS = 2,000
gallons/day
• At 2,000 gallons the consumer is
willing to pay $2 and the MC = $1
• If the buyer pays $1.25 for an
extra gallon, producer is $.25
better off, and the consumer is
$.75 better off, or economic
surplus increases by $1.00
• At $1, the market is not efficient
2.00
1.50
1.25
1.00
.50
D
1
2
3
4
5
Quantity (1,000s of gallons/day)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
77
MB MC
How Excess Supply Creates an Opportunity
for a Surplus-Enhancing Transaction
S
Price ($/gallon)
2.50
•If P = $2 then QD = 2,000
gallons/day
•Additional output costs only $1
•This is $1 less than a buyer would
pay
•If the buyer pays the seller $1.75,
the buyer gains an economic
surplus of $0.25 then the seller
gains an economic surplus of
$0.75
2.00
1.75
1.50
1.00
.50
D
1
2
3
4
5
Quantity (1,000s of gallons/day)
Copyright c 2004 by The McGraw-Hill
Companies, Inc. All rights reserved.
78
MB MC
Market Equilibrium and Efficiency
„
Observations on Efficiency
When price is above or below the
equilibrium, the quantity exchanged will be
below the equilibrium.
z The vertical value on the demand curve
(marginal benefit) is greater than the
vertical value on the supply curve (MC).
z Only the equilibrium will maximize
economic surplus.
z
Copyright c 2004 by The McGraw-Hill
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79
MB MC
Market Equilibrium and Efficiency
„
Markets will be efficient when
Buyers and sellers are well informed.
z Markets are perfectly competitive.
z Supply measures all relevant costs.
z Demand measures all relevant benefits.
z
Copyright c 2004 by The McGraw-Hill
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80
MB MC
Centrally Planned Economies
„
Government determines what quantity
of each good should be produced
Government sets price for each good
„
Questions
„
Are the government’s desired quantity and
price always realized?
z Why is it impossible to control both?
z How do markets achieve equilibrium in a
centrally planned economy?
z
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81