14s - 14 2010 W. W. Norton & Company, Inc. Consumers...

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14 Consumer’s Surplus
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2 Monetary Measures of Gains-to- Trade You can buy as much gasoline as you wish at $1 per gallon once you enter the gasoline market. Q: What is the most you would pay to enter the market?
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3 Monetary Measures of Gains-to- Trade A: You would pay up to the dollar value of the gains-to-trade you would enjoy once in the market. How can such gains-to-trade be measured?
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4 Monetary Measures of Gains-to- Trade Three such measures are: Consumer’s Surplus Equivalent Variation, and Compensating Variation. Only in one special circumstance do these three measures coincide.
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5 $ Equivalent Utility Gains Suppose gasoline can be bought only in lumps of one gallon. Use r 1 to denote the most a single consumer would pay for a 1st gallon -- call this her reservation price for the 1st gallon. r 1 is the dollar equivalent of the marginal utility of the 1st gallon.
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6 $ Equivalent Utility Gains Now that she has one gallon, use r 2 to denote the most she would pay for a 2nd gallon -- this is her reservation price for the 2nd gallon. r 2 is the dollar equivalent of the marginal utility of the 2nd gallon.
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7 $ Equivalent Utility Gains Generally, if she already has n-1 gallons of gasoline then r n denotes the most she will pay for an nth gallon. r n is the dollar equivalent of the marginal utility of the nth gallon.
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8 $ Equivalent Utility Gains r 1 + … + r n will therefore be the dollar equivalent of the total change to utility from acquiring n gallons of gasoline at a price of $0. So r 1 + … + r n - p G n will be the dollar equivalent of the total change to utility from acquiring n gallons of gasoline at a price of $p G each.
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9 $ Equivalent Utility Gains A plot of r 1 , r 2 , … , r n , … against n is a reservation-price curve. This is not quite the same as the consumer’s demand curve for gasoline.
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10 $ Equivalent Utility Gains Reservation Price Curve for Gasoline 0 2 4 6 8 10 Gasoline (gallons) ($) Res. Values 1 2 3 4 5 6 r 1 r 2 r 3 r 4 r 5 r 6
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11 $ Equivalent Utility Gains What is the monetary value of our consumer’s gain-to-trading in the gasoline market at a price of $p G ?
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12 $ Equivalent Utility Gains The dollar equivalent net utility gain for the 1st gallon is $(r 1 - p G ) and is $(r 2 - p G ) for the 2nd gallon, and so on, so the dollar value of the gain-to-trade is $(r 1 - p G ) + $(r 2 - p G ) + … for as long as r n - p G > 0.
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14s - 14 2010 W. W. Norton & Company, Inc. Consumers...

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