so we have talked about consumer surplus now let's talk about producer Surplus well we said economic surplus adds up everyone's costs and benefits well if that's the case then consumer surplus does not tell the full story we also care about the firms producing the goods that consumers buy so back to our example right if we're trying to figure out the total benefit from the invention of the minivan well what you want to think about is both the consumers who bought the minivan or got good deals on a station wagon because of the minivan and we want to think about Chrysler the company producing the minivan right they also benefited from it so let's uh think about um an example we'll have a small family beet farm called shuit Farms well we know that as the price of beets goes up then Dwight the beat farmer will grow more beats that's the law of supply right when the price is one we'll say he grows One Beat price goes up to two we go more and three more and more nice animation there right okay next question what does the arrow represent this Arrow what does that Arrow represent the answer here is C this is the profit from selling one the first unit I think this might be the first we've actually talked about profits and calculating profits how do we get there well what we can think about is that we know the supply curve is the marginal cost curve and so we think about the price you get for each beat is $3 right I said if the price is $3 well how much did it cost to produce that beat that is marginal cost cost right the cost of producing one more beat as we have learned the supply curve is the marginal cost curve so must be that the marginal cost of this first beat was $1 because that's where the supply curve that's what the supply curve tells us supply curve is the marginal cost curve we sold it for $3 so this a this right here this Arrow which is two a length of $2 right it goes from one to three that is the profit dway earned $22 in profit on that first beat it cost him $1 to grow it he sold it for three and we can keep doing this and think about his profit from the next beat he sold and so on eventually we get all these little arrows the profit of each beat so what is producer Surplus that's going to be the difference between the price producers receive for a good and service and the minimum price they are willing to accept well the minimum price they're willing to accept is the marginal cost of producing that good right if it cost you a dollar to make the beat the little the smallest amount you're going to accept for that beat is a dollar you're not going to sell something you that cost you a dollar make for n to make for 90 cents but you will sell it if you have to for A110 so that's the area between the supply curve and the price so again this right here this red here oops this right here is our supply curve which is equal to our marginal cost curve this right here is the price that we can sell them for and so the take all these distances and add them up and we get to to producer Surplus okay so now we can kind of piece together what we what we've done so far and think about total welfare this is the first time this class or this this chapter when we've seen a supply curve and a demand curve together so we first learned that consumer surplus is everything below the demand curve above the price then we learn that a supply curve is everything above the supply curve below the price and again Beyond this quantity here these people these units right here they were not made they were not sold they were not consumed so there are no there's no consumer surplus or producer Surplus in these units so this right here is total Surplus another thing that we can think about is let's think about this this this first unit this is the first beat or the first ice cream cone we'll say it's the ice cream cone that sounds better the first unit costs a dollar to make and the first unit is valued at $10 which means there's $9 in total Surplus available on the first unit so as long as that first unit is purchased whatever the price as long as it goes from the company that can make it for a cost of one to the consumer who values it at 10 there's going to be $9 in Surplus available who gets it is going to depend on the price who gets how that Surplus is divided depends on the price but all we need again is for the unit to go from The Firm that can make it for a dollar to the consumer that gets $10 to that values it at $10 to get us to get us to that $9 in total Surplus a market at equilibrium is one where quantity supplied is equal to quantity demand that was what we learned with the Marios and the Luigi we saw earlier that most markets will be in equilibrium well is is is this good is this the best possible outcome in terms of of uh efficiency right does a market and equilibrium give us the largest possible Surplus well let's look at prices above and below the equilibrium price you can think about this as all right the government has decided that they are really concerned with Max izing Surplus should they just allow price to be the equilibrium price or should they maybe do something to sort of try to force the price higher Force the force the price lower um make some rules about quantities or something like that or do we just want to have the market an equilibrium so here we have let's suppose that we have a higher price so the government steps in says actually equilibrium price would be here we want the the the price to be up here we want to force a higher price well if that was the case what would consumer and producer Surplus look like well whenever we're doing these wherever we are whatever point or price we pick we always remember our um rule for consumer surplus it's the difference between what you're willing to pay and what you have to pay willing to pay is this blue demand curve have to pay is the price so there's our new consumer surplus how about our producer Surplus again we remember our rule it's the difference between between what it cost you to make it so our supply curve which is the marginal cost curve and how much you sell it for which is right here so that's our producer Surplus remember at a price of P2 the demand curve tells us that only q1 units are demanded right if the price is up here you're not going to get many buyers according to the demand curve at this price you're only going to get this many buyers right that's the whole point of a demand curve at a price how many people will demand the unit notice we have all these missing trades well this is missing economic surplus you think about it these are people here again imagine we're thinking about ice cream that we have ice cream that maybe it costs the marginal cost of the scoop of ice cream is $4 and someone values it at $6 well if we could get that ice cream from the store to the person who values it there's Surplus created there it costs $4 to make it and someone gets $6 of enjoying from it and so if we can get the ice cream to the person who values it at $6 that's $2 in economic surplus and again the price would you know whatever the price is will affect who gets the Surplus but the main thing to not is as long as that ice cream get gets consumed there's economic surplus there well this high price prevents the the buyer from wanting it right they maybe they're willing to pay $6 for it but the price is set to eight or something like that so they don't buy it when they don't buy it there's no e there's no consumer or producer Surplus available so this is missing economic surplus so notice Rel relative to our market and equilibrium we are missing out on all these trades and so missing out of this economic surplus so if price is above equilibrium total Surplus is lower all right what if we have a lower price what if you the government decides hey we think prices are too high and so what we can do to help out is we're going to do our best make some sort of rule to force prices down does this increase total Surplus so we'll say our price here is P3 and what are consumer producer Surplus again we follow our rules producer Surplus everything above the supply curve below the price consumer surplus everything below the demand curve above the price there's our total there is our total Surplus consumer plus producer notice that once again we have these missing trades so what's going on here is these are all um sellers so you're like you know what I would they would be we would both be better off if the seller could produce it at this low marginal cost at this at whatever this marginal cost is notice that it's lower than the Willing someone's willingness to pay for so for all these units as long as these the ice cream cone gets made and it winds up in the hand as someone with this valuation their's Surplus created however the seller is not willing to produce at this low produce those units at this lower price because their marginal cost is greater than that so we have missing trades and as a result we have missing economic surplus so I think this gives us a cool lesson here when we have price above equilibrium we have we lose out an economic surplus we have a price below equilibrium we lose out on economic surplus which means that if we want to maximize total Surplus equilibrium price is how we get there another way to think of it is equilibrium is not just how markets are equilibrium maximizes total Surplus uh what I mean by that is again most markets will find their way to equilibrium at least according to the models we've been learning in this class and it happens that equilibrium maximizes total Surplus which means that equilibrium is efficient it's funny I used to have the slide say equilib is not just how markets are equilibrium is how markets should be however that is a normative judgment right again that was me putting in this idea that that efficiency should be our goal and we want to keep that separate from is that our goal but is at least is a useful metric and to note that equilibrium is efficient when we just allow a market to get to equilibrium on its own at least according to models we had in this class we get an efficient market which is maximum total Surplus plus this brings us this topic uh this phrase you may have heard called The Invisible Hand this is a very old concept and the invisible hand says the market achieves an efficient outcome even though no Market participant is trying to achieve that goal each person pursues their independent self-interest so what I mean is each person is when we talked about rational decision- making each person is trying to maximize benefit Minus cost right the person buying the ice cream the person selling the ice cream um and everyone is trying to pursue their self-interest which means everyone is buying the ice cream if the uh their marginal benefit is B greater than the price each firm is producing their independent self-interest so each ice cream store is always making more ice cream as long as the price of it is greater than it costs them to produce it this guides the market toward an efficient outcome okay here is a um famous quote by pursuing his own interest he frequently promotes that of the society more effecte than when he intends to promote it so this is um from Adam Smith a very famous economist back in 1776 wrote this the idea is that this the Invisible Hand actually gets us to a more efficient outcome than we would get if people were just sort of trying to Max if everyone was trying to maximize total Surplus that the best way to get there is to just have everyone um pursue their own self-interest um and I will say this is you know maybe a very nice Rosy over overly optimistic view of the great things that happen with free markets but and then so we have this idea and then in subsequent classes we will sort of talk about well maybe markets aren't always efficient and there's some instances where just allowing a free unregulated market does not always give us the best outcome