Consumer Surplus: Refers to the excess value a buyer receives from a purchase, measured as the difference between their willingness to pay and the actual price paid.
Demand Curve: Represents the buyer's willingness to pay, reflecting the maximum price a consumer is willing to pay for a product.
Reservation Price: The highest price a consumer is willing to pay, beyond which they will not purchase the product.
Measuring Consumer Surplus
Formula: Consumer Surplus = Willingness to Pay - Price Paid
Consumer surplus is measured only when a product is purchased, and it is always zero or positive.
Example: If willing to pay $50 for jeans and the price is $40, the consumer surplus is $10.
Consumer surplus cannot be negative. If the price paid is greater than the willingness to pay, the product is not purchased.
Graphical Representation
Demand Curve and Consumer Surplus: The area under the demand curve and above the price line up to the quantity purchased reflects consumer surplus.
Equilibrium Price: The price actually paid in the market.
Consumer purchases until the willingness to pay equals the price (marginal buyer).
Steps to Find Consumer Surplus Graphically
Identify the equilibrium price and quantity.
Determine the area under the demand curve and above the equilibrium price up to the quantity purchased.
Use the formula for the area of a triangle ( \frac{1}{2} \times \text{base} \times \text{height} ) to calculate the consumer surplus.
Key Points
Consumer surplus reflects the extra value or "excess happiness" a consumer gains from purchasing a product at a price lower than their maximum willingness to pay.
Graphically, consumer surplus is depicted as a triangle in the supply and demand model.
Consumers will purchase a product as long as their willingness to pay is greater than or equal to the price.