blanchard_ch10

So by producing fewer computers and more video games

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Unformatted text preview: ocial cost. Competitive equilibrium achieves this efficient outcome because, with no externalities, price equals marginal social benefit for consumers, and price equals marginal social cost for producers. The gains from trade are the sum of consumer surplus and producer surplus. The gains from trade for consumers are measured by consumer surplus, which is the area below the demand curve and above the price paid. (See Chapter 5, p. 97.) The gains from trade for producers are measured by producer surplus, which is the area above the supply curve and below the price received. (See Chapter 5, p. 99.) The total gains from trade equals total surplus —the sum of consumer surplus and producer surplus. When the market for a good or service is in equilibrium, the gains from trade are maximized. Choices, Equilibrium, and Efficiency We can use what you have learned about the decisions made by consumers and competitive firms and market equilibrium to describe an efficient use of resources. Choices Consumers allocate their budgets to get the most value possible out of them. We derive a consumer’s demand curve by finding how the best budget allocation changes as the price of a good changes. So consumers get the most value out of their resources at all points along their demand curves. If the people who consume a good or service are the Illustrating an Efficient Allocation Figure 10.12 illus- trates the efficiency of perfect competition in longrun equilibrium. Part (a) shows the individual firm, and part (b) shows the market. The equilibrium market price is P *. At that price, each firm makes zero economic profit and each firm has the plant that enables it to produce at the lowest possible average total cost. Consumers are as well off as possible because the good cannot be produced at a lower cost and the price equals that least possible cost. In part (b), consumers get the most out of their resources at all points on the market demand curve, D = MSB. Consumer surplus is the green area. Producers get the most out of their resources at all points on the market supply curve, S = MSC. Producer surplus is the blue area. Resources are used efficiently at the quantity Q* and price P *. At this point, marginal social benefit equals marginal social 000200010270728684_CH10_p195-220.qxd 6/23/11 4:13 PM Page 213 C ompetition and Efficiency Efficiency of Perfect Competition Price and cost Price F IGURE 10.12 213 S = MSC MC LRAC SRAC P* Consumer surplus MR Efficient allocation P* Producer surplus Long-run competitive equilibrium D = MSB q* 0 Q* 0 Quantity Quantity (a) A single firm (b) A market Demand, D, and supply, S, determine the equilibrium price, P*. A firm in perfect competition in part (a) produces q* at the lowest possible long-run average total cost. In part (b), consumers have made the best available choices and are on the market demand curve, and firms are producing at least cost and are on the market supply curve. With no externalities, marginal social benefit equals marginal social cost, so resources are used efficiently at the quantity Q*. animation cost, and total surplus (the sum of producer surplus and consumer surplus) is maximized. When firms in perfect competition are away from long-run equilibrium, either entry or exit is taking place and the market is moving toward the situation depicted in Fig. 10.12. But the market is still efficient. As long as marginal social benefit (on the market demand curve) equals marginal social cost (on the market supply curve), the market is efficient. But it is only in long-run equilibrium that consumers pay the lowest possible price. x You’ve now completed your study of perfect com- petition. Reading Between the Lines on pp. 214–215 gives you an opportunity to use what you have learned to understand events in the global market for corn during the past few years. Although many markets approximate the model of perfect competition, many do not. In Chapter 11, we study markets at the opposite extreme of market power: monopoly. Then we’ll study markets that lie between perfect competition and monopoly. In REVIEW QUIZ 1 2 3 4 State the conditions that must be met for resources to be allocated efficiently. Describe the choices that consumers make and explain why consumers are efficient on the market demand curve. Describe the choices that producers make and explain why producers are efficient on the market supply curve. Explain why resources are used efficiently in a competitive market. You can work these questions in Study Plan 10.6 and get instant feedback. Chapter 12 we study monopolistic competition and in Chapter 13 we study oligopoly. When you have completed this study, you’ll have a tool kit that will enable you to understand the variety of real-world markets. 000200010270728684_CH10_p195-220.qxd 6/23/11 4:13 PM Page 214 READING BETWEEN THE LINES Perfect Competition in Corn Bumper Harvests Bring Stability http://www.ft.com June 1, 2010 There is no better fertilizer than high prices, the old farming adage goes. Trends in agriculture appear to be proving this resoundingly true. The spike in prices...
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