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Welfare Analysis

Welfare Analysis. Consumer Surplus; Producer Surplus Welfare Analysis of Tax; Welfare Analysis of Price Control. Economic Efficiency. A situation is economically inefficient if there is some way to change it so that so that someone gains while no one else loses.

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Welfare Analysis

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  1. Welfare Analysis Consumer Surplus; Producer Surplus Welfare Analysis of Tax; Welfare Analysis of Price Control

  2. Economic Efficiency • A situation is economically inefficient if there is some way to change it so that so that someone gains while no one else loses. • A change is a Pareto improvement if at least one person gains and no one loses • A change is economically efficient if the winners could compensate the losers by enough to make the change a Pareto improvement.

  3. Assessing Benefits • Consumer Sovereignty • “Willingness to Pay” = Consumer Benefit • Consumer Surplus • “Willingness to Sell” =Opportunity Cost • Producer Surplus

  4. Price P0 Demand Quantity Consumer Surplus -- Difference between Willingness to Pay and Price Paid by Buyer r1 r2 r3 r4 3 5 1 2 4

  5. Consumer Surplus Is Triangle Below Demand, Above Market Price. Price Consumer Surplus P0 Demand Quantity 5 Total Expenditure

  6. P0=t5 1 3 5 2 4 Producer Surplus- Difference Between Opportunity Cost and Selling Price Price t5 t4 t3 t2 t1 Quantity

  7. Producer Surplus Price Supply P0=t5 Producer Surplus Quantity

  8. Consumer and Producer Surplus - Market Equilibrium Price Consumer Surplus Supply P0 Demand Producer Surplus Q0 Quantity

  9. Reduce Output: Winners can not compensate losers. Price A - New CS A+B+E - Old CS C+D+F - Old PS B+C+D - New PS Supply A P1 B E P0 C F D Demand Quantity Q1 Q0 Suppliers gain B-F, but consumers lose B+E.

  10. Impact of Price Ceiling on Efficiency Impact of Price Floor on Efficiency Impact of Sales Tax on Efficiency Impact of a Subsidy on Efficiency Analyze the Following

  11. Impact of Price Ceiling on Efficiency A+B+C -- New CS A+B+E -- Old CS D -- New PS C+D+F -- Old PS Demand A Supply B E Market Clearing Price C F Price Ceiling D E+F is the Deadweight Loss Associated with Price Ceiling

  12. Impact of Price Floor on Efficiency A -- New CS A+B+E -- Old CS B+C+D -- New PS C+F+D -- Old PS Supply A Price Floor B E Market clearing price C F D Demand Q1 Q0 E+F is deadweight loss associated with the price floor.

  13. Market Equilibrium is Efficient. No Deadweight Loss. Price controls create a deadweight loss Also, there are costs associated with rationing mechanisms, black markets etc. SUMMARY

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