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Principles of Economics- Mankiw (5th) 158

Principles of Economics- Mankiw (5th) 158 - 164 PA R T T H...

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164 PART THREE SUPPLY AND DEMAND II: MARKETS AND WELFARE Welfare without a Tax To see how a tax affects welfare, we begin by considering welfare before the government has imposed a tax. Figure 8-3 shows the supply-and-demand diagram and marks the key areas with the letters A through F. Without a tax, the price and quantity are found at the intersection of the supply and demand curves. The price is P 1 , and the quantity sold is Q 1 . Because the demand curve reflects buyers’ willingness to pay, consumer surplus is the area between the demand curve and the price, A B C. Similarly, because the supply curve reflects sellers’ costs, producer surplus is the area between the supply curve and the price, D E F. In this case, because there is no tax, tax revenue equals zero. Total surplus, the sum of consumer and producer surplus, equals the area A B C D E F. In other words, as we saw in Chapter 7, total surplus is the area between the supply and demand curves up to the equilibrium quantity. The
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