Chapter 4

efficiency

-about how to achieve goals, not what those goals should be -the property of a resource allocation of maximizing the total surplus received by all members of society

economic signal

-any piece of information that helps people make better economic decisions -prices are the most important signals

fall in price changes consumer and producer surplus

-increases consumer surplus -reduces producer surplus

functions of an efficient market (free market)

-it allocates consumption of the good to the potential buyers who value it, as indicated by the fact that they have the highest willingness to pay -it allocates sales to the potential sellers who most value the right to sell the good, as indicated by the fact that they have the lowest cost -it ensures that every consumer who makes a purchase values the good more than every seller who makes a sale, so that all transactions are mutually beneficial -it ensures that every potential buyer who doesn't make a purchase values the good less than every potential seller who doesn't make a sale, so that no mutually beneficial transactions are missed

inefficient market or economy

-occurs if there are missed opportunities -some people could be made better off without making other people worse off

ways to increase total surplus

-reallocate consumption among consumers -reallocate sales among sellers -change the quantity traded

three caveats of market equilibrium

-the market isn't necessarily fair -markets sometimes fail -doesn't always result in the best outcome for even individual consumer and producer

individual consumer surplus

-the net gain to an individual buyer from the purchase of a good -equal to the difference between the buyer's willingness to pay and the price paid

individual producer surplus

-the net gain to an individual seller from selling a good -equal to the difference between the price received and the seller's cost

gains from trade

-the reason everyone is better off participating in a market economy than trying to be individually self-sufficient -can not be increased when market is in equilibrium

total consumer surplus

-the sum of the individual consumer surpluses of all the buyers of a good in a market -equal to the area below the demand curve but above the given price of a good

total producer surplus

-the sum total of the individual producer surpluses of all the sellers of a good in a market -equal to the area above the demand curve but below the given price of a good

total surplus of a market

-the total net gain to consumers and producers from trading in the market -sum of the producer and the consumer surplus

market failure

-when a market fails to be efficient causes: -when there is a monopolist -externalities -private information

features of a well-functioning market

property rights and economic signals

producer surplus

refers both to individual and to total producer surplus

consumer surplus

refers to both individual and to total consumer surplus

seller's cost

the lowest price at which he/she is willing to sell a good

consumer's willingness to pay

the maximum price at which the consumer will buy a good at

property rights

the rights of owners of valuable items, whether resources or goods, to dispose of those items as they choose

equity and efficiency

there is a trade-off: policies that promote equity often come at the cost of decreased efficiency