In this class, we will derive equilibrium outcomes across a variety of market structures. We will begin by understanding equilibrium under a market structure called Perfect Competition, a benchmark construction. Economists have tools to measure the efficiency of market outcomes. We next consider the polar extreme of a competitive market: a monopoly market. We will determine the monopoly equilibrium price and quantity and efficiency properties. Much economic activity takes place in markets with just a handful of very large producers. To understand equilibrium in these oligopoly markets requires more careful attention to strategic interdependence. To capture this interdependence, we consider collusive arrangements among a small number of rivals as well as the use of simple game theoretic techniques to model equilibrium. Market Failure describes situations where markets fail to find the efficient outcome. Information asymmetries are one fertile form of market failure. Another form of market failure occurs when externalities are present. We will examine one key externality, pollution, and construct a policy prescription to mitigate the negative efficiency impacts of this externality. Upon successful completion of this course, you will be able to: • Explain how different market structures result in different resource allocations. • Model the impact of external shocks to a particular market structure and demonstrate the new equilibrium price and quantity after the impact of this external shock has played out. • Evaluate the efficiency of an equilibrium. Different market structures produce different levels of efficiency. • Explain when and why the government might intervene with regulatory authority or antitrust litigation to lessen inefficiencies in some markets. • Describe how information problems can cause inefficient outcomes. • Understand externalities and consider optimal government response to these market failures. This course is part of the iMBA offered by the University of Illinois, a flexible, fully-accredited online MBA at an incredibly competitive price. For more information, please see the Resource page in this course and onlinemba.illinois.edu.
2-1.1. Consumer Surplus
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Del curso dictado por University of Illinois at Urbana-Champaign
Firm Level Economics: Markets and Allocations
258 calificaciones
University of Illinois at Urbana-Champaign
258 calificaciones
Curso 2 de 7 en SpecializationManagerial Economics and Business Analysis
De la lección
Module 2: Monopoly Markets and Efficiency
Analysts can predict equilibrium outcomes with some degree of certainty. We want to construct a measure of efficiency that will allow us to evaluate the attractiveness of these equilibrium market outcomes. After using this metric to consider the efficiency of the competitive market, we will introduce a different market structure, monopoly, and use our efficiency metric to evaluate the equilibrium resource allocation under monopoly.
Conoce a los instructores
Larry DeBrockDean Emeritus and Professor of Finance and Professor of Economics
University of Illinois, Urbana-Champaign College of Business Department of Business Administration
Earlier, we established an equilibrium in a perfectly competitive market.
We had really two conditions, short run equilibrium and
long run equilibrium, worked it out.
Even showed a little analysis of what would happen if something came along and
tweaked, for an external shock.
In that case it was an example about some news that caused the demand curve to get
stronger and what was the impact in the short run and
the long run as we traced it through from one equilibrium to a new equilibrium.
That's really the job of analysts,
to figure out what happens when shocks like this hit the market.
It's also the job of analysts to figure out how to evaluate this outcome.
And so in this lesson, we're going to think about evaluating market outcomes.
And it requires us to build a tool, a yardstick,
a metric, that we're going to use to see if we can figure out,
what about this equilibrium makes sense, and what doesn't?
So, I'm going to start by saying that our goal here is
to understand the process of evaluating market equilibrium.
And so our goal is to build this yard stick.
We're going to build a metric to measure efficiency.
Now the good news is that once we've built this metric,
we're going to build it with the idea that it's good in all cases.
So it's going to allow us to measure not only what happened in
our perfectly competitive model.
But we can use that same yardstick to evaluate what happens under monopoly,
and oligopoly, and things like cartels.
And then other sorts of interesting problems that economists call market
failures.
Where we'll look at those moving on in later parts of this course where we'll
think about externalities, which are damaging to society,
damaging to other consumers.
How does the metric hold up in measuring those?
That's part of what we're going to do.
So we're going to start with an assumption.
To start, we're going to say,
initially we're going to assume no government intervention.
We'll modify that pretty quickly because of course the government does
intervene a lot.
But to begin with, we'll start without them, and that means that the implication
is there's just two agents in the market, buyers and sellers.
We want to figure out a metric.
What does this market outcome actually contribute to the overall efficiency or
happiness, or welfare for consumers?
This type of analysis, if you were to look in the economics textbook,
is often referred to as welfare economics.
It's a way to try to build a measuring stick,
a platform that will allow us to make some relative comparisons.
So we'll start by thinking about consumers.
And we're going to think about consumers by building a term called consumer surplus
which, from now on, I'm just going to call Consumer Surplus.
And the definition of Consumer Surplus is,
it's the excess of consumer value net of consumer expenditures.
So the way to think about this is suppose they told you that in your brain,
you're calculating the value of that Diet Pepsi you're about to purchase.
And in your head, you have an idea of what the true value of that Diet Pepsi is.
And you know all sorts of intrinsic characteristics about how its
going to make you feel.
You also know how many of those little green sheets of paper you're going to
have to part so you have an idea about how much it is going to cost you.
The value to you above and beyond what you actually have to give up in terms of green
sheets of paper, embodying other things, that's what consumer surplus is all about.
So, if in your head, you think this Pepsi's going to be worth about $2.25 to
me, and you can get it for a dollar.
Well, that means $1.25 to the good.
That would be consumer surplus.
Now if it turns out that you have to pay $2.25 for it.
And the value is $2.25, that's a transaction's a wash.
Having that Pepsi gives you $2.25 but
you're giving up $2.25 worth of something else.
So, you could have used it on something else and not known the difference,
that's what it means.
And of course finally, if it's value to you is worth $2.25, and
the market wants $2.50, well you're just not
going to buy it because you're giving up $2.50 worth of embodied happiness
in those green sheets of paper to get something that's only worth $2.25.
So this is a pretty straightforward metric of what you,
the consumer, are getting out of this market.
So let's think about this as we do, over and over again, by drawing a graph.
This is a demand curve, the demand curve represents a collection of people and
their willingness to pay.
Remember, at this price, the demand curve tells us this amount will be consumed.
There's a consumer standing right here.
This consumer has marginal value for this product.
Suppose this is a can of diet Pepsi.
This consumer has marginal value for this can of Diet Pepsi of,
let's say $3.50, and the price in the market is $1.50.
Now that consumer is not going to reveal hey, I paid $3.50 for it.
But in their head, they know that.
We know this as analysts because we have been constructing this demand curve and
using it over and over again.
As price floats up, fewer people will want to buy it.
See as price flows up, the market's getting smaller and
smaller because more and more people say, that's just not worth it.
I'm not going to give up all these green sheets of paper,
there's other things I can buy.
This person is still buying them because at this price,
$3.20, $3.50 still gives them a net transaction.
Make no mistake, they'd love to have it for free, but
that's not the way the market's working.
The way you constructed this demand curve, you know if it's a continuous function,
which it is on this graph, that there are people all along here.
And those people have marginal willingness to pay, as represented by this curve.
So for this particular transaction, this individual will get
$3.50 worth of happiness from that Diet Pepsi, but
they paid $1.50 which means that their surplus would just be this vertical gap.
Remember what the definition said.
It's the excess and consumer value net of consumer expenditures.
For this particular product, the consumer gets $3.50 but
has to part with $1.50 worth of alternative enjoyment so the net,
that is the surplus for that particular transaction is $2.
Now, the cool thing is, as long as you've constructed this curve,
you know you got the data from the people in IT at your company.
And you're able to sort of tease out what the demand curve looks like by having
different possible prices and seeing how people leave the market or
enter the market.
You know that there are people all over the place.
This person down here has value lower than $1.50, he doesn't even buy.
But there are people here, because it's a continuous function,
who actually have value like a buck 55.
They're going to buy it.
Their consumer surplus is not very much, but enough of pushing this.
You begin to see that as I add up all of these across here,
the consumer surplus is the area of this triangle.
So formally for us, we say consumer surplus is the area
below demand and above price.
You have confidence in your demand curve,
if you had done a good job of estimating your demand curve.
You know there's a continuous stream of people who are going to part,
leave the market as price gets higher and higher.
But for the current price, there's a whole bunch of people who say, that's good,
I'm making a little net.
There's a person over here who says, you know what?
I'm even making a higher net.
I'm even making a higher net.
We add all those up, we have something called consumer surplus.
Let's look at it one more time on a cleaner picture.
If this is the supply curve, we know the market-clearing price will be P0.
You, the Pepsi consumer, you're not sure how that market actually happens, but
you know when you walk up to the place to buy the Pepsi, it says a buck 50 on it.
That's the market price.
If you're willing to buy it, somewhere the little stick figure representing you is up
here, sort of to the northwest of the equilibrium point.
But we know there's lots of people along this curve and every one of these people
are having some net above what they have to pay to get this product.
And this area is called consumer surplus.
Very powerful tool for us, I'm not kidding you here,
it's used everyday in Washington DC when people promulgate regulations,
they have to talk about cost benefit analysis.
And so if they say well,
I think it's a great idea that we have side air bags, we need to put that law in.
And I say well, side air bags is certainly going to have a benefit.
The benefit'll be people will calculate the reduced injury factor.
They'll calculate all this on net that we're going to see in society.
But it's also going to raise the price of the car.
And when it raises the price of the car from, let's say, P0,
wherever that was, to the new price, P1.
The size of that triangle has shrunk.
This whole trapezoid is now missing.
It's not there anymore because all of these consumers were standing here,
no longer purchased the product.
They're gone.
So this new smaller triangle is the new consumer surplus and
you can see it's clearly less than what the original triangle was.
These types of calculations are made everyday.
Because when regulators are required to produce cost benefit analysis,
they have to have some indicator what's the pain and
suffering to consumers through the higher price of this car now.
Because we're putting more regulations on it.
They actually calculate these little triangles.
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