Question

In Microeconomics -explain how total surplus can be positive and how it can be negative

Answer 1

Answer:

Total Surplus:

A desirable objective of an economic system is to maximize the well-being of society.

We have two types of surpluses:

Consumer Surplus

Producer Surplus

Consumer Surplus:

buyers must benefit from what they buy and sellers must benefit from what they sell.

When people buy something, they generally pay less than what they were willing to pay for the good or service.

The difference between the willingness-to-pay price and the market price is the consumer surplus.

Consumer Surplus = Willingness to Pay Price – Market Price

Producer Surplus:

sellers can sell a product at a higher price than their economic cost to produce a product.

The difference between the economic cost and the market price is the producer surplus.

Producer Surplus = Market Selling Price – Economic Cost

Total Surplus:

To measure total economic welfare, we can add the consumer surplus to the producer surplus to arrive at the total surplus.

Total Surplus = Consumer Surplus + Producer Surplus

Total Surplus = Willingness to Pay Price - Actual Purchase Price + Actual Selling Price - Economic Cost

Total Surplus = Willingness to Pay Price – Economic Cost

Graph of Total Surplus:

here,

Consumer surplus = the area above the market price and below the demand curve,

while producer surplus = the area below the market price but above the supply curve.

Total surplus can be positive and it can be negative in the following situations:

If the product price is higher than the market price, then the producer surplus increases, but only at the expense of the consumer surplus.

If the price is lower than the market price, then consumers enjoy increased consumer surplus, but only at the expense of the producers.

Of course, this assumes that the buyers will buy the entire quantity at the higher price or that producers will produce the quantity demanded at the lower prices.

However, a price higher than the market price will lead to a surplus, because the price is higher than what many consumers are willing to pay, and if the price is below the market price, then shortages will be created, because at lower prices, producers are only willing to produce a quantity that is less than demand. So, in actuality, shortages and surpluses will reduce the total surplus.

Hence, total surplus is maximized at the market equilibrium price

Therefore, total surplus is maximized when the price equals the market equilibrium price. i.e it is positive

Once the price rises above the market equilibrium price, then total surplus either starts to decline or no longer increases.

Hence total surplus is minimum when  the price rises above the market equilibrium price. i.e it is negative.