Download Notes for Chapter 3

Notes for Chapter 3
ECON 2390
Benefit-Cost Analysis

Benefits to the consumer



The key to a benefit that anything of value
will be acquired by giving something up.
Typically measured as consumer surplus.
Willingness to pay is the key idea and equals
the difference between the maximum the
consumer would be willing to pay and the
actual purchase price.
2
Consumer demand


Consumer demand depends on price or
the produce, price of complements and
substitutes, income, wealth,….
Typical relationships focus on quantity
demanded and the “own” price.


QD = a – BP
P = a/B – (1/B)QD
3
Willingness to pay
Price

B

Pe
A
Qe

The demand curve
represents the
willingness to pay
Pe is the equilibrium price
Consumer surplus is the
triangle PeAB
Quantity Supplied
4
Producer Surplus
Price


Pe
A


B
Qe
The supply curve
represents the
willingness to offer
This is an idealized
relationship (see notes
page)
Pe is the equilibrium price
Producer surplus is the
triangle PeAB
Quantity Supplied
5
Derivation of marginal cost

Total supply




QS1 = 3p-4
QS2 = p-2
QS1 + QS2 =QT = (3p-4) + +p-2) = 4P-6
Marginal cost



MC1 = 4/3 +1/3QS1
MC2 = 2 + QS2
MCT = 3.2 + 1/4QT
6
Social welfare





The sum of producer and consumer surplus equals
social welfare
If a change, such an environmental regulation
increases social welfare, then that policy should be
adopted.
Benefit cost analysis is the study of investments and
policy that are designed to increase social welfare.
Environmental goods are and increasingly important
element of social welfare.
Ability to pay is an important limit to willingness to
pay.
7




Consumer + producer surplus = social surplus
Perfect competition maximizes social surplus
The point X* is allocatively efficient
Any deviation, such as rationing, reduces the social surplus
8