|
Producer and Consumer Surplus
Illustrated
The producers' and consumers'
surpluses are illustrated with supply and demand curves
in the figure below. The total value to consumers of
quantity Q is represented by areas A+B+C.
Because the consumers must pay B+C, only the area
A is surplus for them. Producers get revenue of
B+C. B is their surplus because only payments
of C are needed to attract the resources necessary to
produce quantity Q.
The concepts of consumers' and producers' surpluses are
tools that can help analyze many situations. For example, is
there any temptation for sellers to gang up on buyers? If
sellers can raise the price, can they transfer some of the
consumers' surplus to themselves? They can, and the graph
below illustrates what happens. The consumers' surplus at
price Pc is A+B+D. The producers' surplus at
this price is C+E. By raising price to Pm,
sellers cause the consumers' surplus to shrink to the area
A. Area B is transferred from consumers to
producers, but producers lose area E. If area
B is greater than area E, this move benefits
producers. The new producers' surplus is C+B. If
sellers gang up on buyers, they are no longer price
takers. Rather, the sellers leave the supply curve and
search along the demand curve for the best deal. As a
result, such behavior is called "price
searching."
It is easiest for sellers to restrict output and raise
price when there are very few sellers and many buyers. When
there is monopoly, which means there is only one
seller, economists expect the seller to act in this way.
With many sellers, coordination of decisions becomes
difficult (for the same reason that the problem
of the commons can exist) and output restrictions become
unlikely.
Alternatively, buyers can gang up on sellers and extract
producers' surplus. They must restrict purchases to drive
the price down. Again, this behavior is likely only when
there are very few buyers and many sellers. When there is
only one buyer, a monopsonist, economists expect it
to restrict purchases.
What is good for the individual is not necessarily good
for the group. Notice that the process of transferring the
value of area B from consumers to producers in the
second graph above causes consumers to lose area D
and producers to lose area E, and no one gets
this lost value. In the process of increasing their surplus
by seizing area B, producers cause the value of total
surplus to shrink. There is a conflict here between the
interests of producers and society as a whole. This loss of
value, which is not offset elsewhere in the system, is the
essence of the economist's case
against monopoly.
Copyright
Robert Schenk
|