chapter7

# chapter7 - Efficiency and Exchange 1 Market Equilibrium and...

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1 Efficiency and Exchange

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Slide 2 Market Equilibrium and Efficiency A market equilibrium is efficient… …if price and quantity take any other than their equilibrium values, a transaction that will make at least some people better off without harming others can always be found.
Slide 3 A Market in Which Price Is Below the Equilibrium Level 2.50 Quantity (1,000s of gallons/day) Price (\$/gallon) 1 2 3 4 5 2.00 1.50 1.00 .50 D S

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Slide 4 How Excess Demand Creates an Opportunity for a Surplus-Enhancing Transaction 2.50 Quantity (1,000s of gallons/day) Price (\$/gallon) D S 1 2 3 4 5 2.00 1.50 1.00 .50 1.25 If P = \$1 then Q S = 2,000 gallons/day At 2,000 gallons the consumer is willing to pay \$2 and the MC = \$1 If the buyer pays \$1.25 for an extra gallon, producer is \$.25 better off, and the consumer is \$.75 better off, or economic surplus increases by \$1.00 At \$1, the market is not efficient
Slide 5 How Excess Supply Creates an Opportunity for a Surplus-Enhancing Transaction Quantity (1,000s of gallons/day) Price (\$/gallon) D S 1 2 3 4 5 2.50 2.00 1.50 1.00 .50 1.75 If P = \$2 then Q D = 2,000 gallons/day Additional output costs only \$1 This is \$1 less than a buyer would pay If the buyer pays the seller \$1.75, the buyer gains an economic surplus of \$0.25 then the seller gains an economic surplus of \$0.75

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Slide 6 Market Equilibrium and Efficiency When price is above or below the equilibrium, the quantity exchanged will be below the equilibrium. The vertical value on the demand curve (marginal benefit) is greater than the vertical value on the supply curve ( MC ). Only the equilibrium will maximize economic surplus.
7 Cash on the Table When any “frictions” (typically government regulation) prevents the market price from reaching its equilibrium level, the total economic surplus (economic benefits less opportunity costs) available for buyers and sellers is diminished. Mutually beneficial exchanges are always possible when a market is out of equilibrium. When people have failed to take advantage of all mutually beneficial exchanges, there is "cash on the table.”

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8 Social optimality The socially optimal quantity of any good is the quantity that maximizes the total economic surplus that results from producing and consuming the good. Cost-benefit principle keep expanding production of the good as long as its marginal benefit is at least as great as its marginal cost. Socially optimal quantity is that level for which the marginal cost and marginal benefit of the good are the same.
Slide 9 The Cost of Preventing Price Adjustments Price Ceilings: Do They Help the Poor? A Price Ceiling for Housing Space Also known as rent control

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Producer surplus = \$900/day Consumer surplus = \$900/day D S Economic Surplus in an Unregulated Market for Housing Space 2.00 Quantity of Housing /day Price (\$) 1 2 3 4 5 1.60 1.20 1.00 .80 1.80 1.40 8 Without price controls: Equilibrium Price = \$1.40
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chapter7 - Efficiency and Exchange 1 Market Equilibrium and...

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