Study sheet: Demand Supply and Market Welfare

📋 Course Outline

1. Buyer and Seller Gains
2. Demand and Supply Curves
3. Market Equilibrium
4. Consumer and Producer Surplus
5. Market Efficiency and Welfare
6. Taxes and Deadweight Loss
7. Price Regulation and Shocks

📖 1. Buyer and Seller Gains

🔑 Key Concepts & Definitions

• Buyer valuation : the cutoff point below which she wants to trade, and the buyer's gain from trade is V − P.
• Seller cost : the cutoff point above which he wants to trade, and the seller's gain from trade is P − C.

📝 Essential Points

• The total gain from trade is $V-C$, equal to the buyer's gain $V-P$ plus the seller's gain $P-C$.

💡 Memory Hook

Buyer values V; seller incurs cost C.

📖 2. Demand and Supply Curves

🔑 Key Concepts & Definitions

• Demand curve : shows the quantity buyers want to purchase at each price and slopes down.
• Supply curve : shows the quantity sellers want to sell at each price and slopes up.

📝 Essential Points

• The example gives these buyer valuations and seller costs:
  • Buyer valuations: 700
  • Buyer valuations: 700
  • Buyer valuations: 600
  • Buyer valuations: 400
  • Buyer valuations: 400
  • Buyer valuations: 300
  • Seller costs: 100
  • Seller costs: 100
  • Seller costs: 200
  • Seller costs: 300

💡 Memory Hook

Demand slopes down, whereas supply slopes up.

📖 3. Market Equilibrium

🔑 Key Concepts & Definitions

• Market equilibrium : the price and quantity at which quantity supplied equals quantity demanded.

📝 Essential Points

📐 Formula — Equilibrium satisfies $S=D$ at the equilibrium price $P^*$ and quantity $Q^*$.

💡 Memory Hook

Supply and demand forces drive the market toward the equilibrium price.

📖 4. Consumer and Producer Surplus

🔑 Key Concepts & Definitions

• Consumer surplus : the area under the demand curve and above the price line, equal to total valuation minus expenditure: $CS=v(Q)-P Q$.
• Producer surplus : the area above the supply curve and below the price line, equal to revenue minus total cost: $PS=P Q-c(Q)$.
• Marginal valuation : The marginal valuation of the Qth unit is the change in total valuation from one additional unit: $mv(Q)=\frac{dv(Q)}{dQ}=v(Q)-v(Q-1)$.
• Marginal cost : The marginal cost of the Qth unit is the change in total cost from one additional unit: $mc(Q)=\frac{dc(Q)}{dQ}=c(Q)-c(Q-1)$.

💡 Memory Hook

Consumer surplus sits above the price line; producer surplus sits below it.

📖 5. Market Efficiency and Welfare

📝 Essential Points

• The market price maximizes total surplus, so markets are an efficient way to organize economic activity.

• Total surplus is the sum of consumer surplus and producer surplus.

💡 Memory Hook

Equilibrium maximizes total surplus, making markets efficient.

📖 6. Taxes and Deadweight Loss

🔑 Key Concepts & Definitions

• Sales tax : A per-unit tax on sellers shifts the supply curve up by the amount of the tax, while a per-unit tax on buyers shifts the demand curve down by the amount of the tax.

★ Must-know

• A per-unit sales tax leads to unrealized gains from trade and reduces total welfare through deadweight loss.

Further detail

📐 Formula — The numerical demand and supply example gives demand $Q=120-2P$ and supply $Q=P$.

💡 Memory Hook

A sales tax reduces trade and creates unrealized gains from trade.

📖 7. Price Regulation and Shocks

🔑 Key Concepts & Definitions

• Price floor : a regulated minimum price that can create a surplus when it is imposed above equilibrium.
• Price ceiling : a regulated maximum price that can create a shortage when it is imposed below equilibrium.

📝 Essential Points

📐 Formula — With demand $Q_d=50-P$ and supply $Q_s=0.5P-10$, the unregulated equilibrium is found by setting $Q_d=Q_s$.

• For a generic soft drink, a tariff on imported raw sugar raises an input cost and Coca-Cola and Pepsi's advertising campaign makes branded products more attractive; these events affect the generic drink's equilibrium price and quantity through supply and demand shifts.

💡 Memory Hook

A price floor creates surplus, whereas a price ceiling creates shortage.

📊 Synthesis Tables

Surplus and Market Effects

Concept	Graphical area	Effect
Consumer surplus	Below demand and above price	Buyer gain
Producer surplus	Above supply and below price	Seller gain
Deadweight loss	Unrealized gains from trade	Reduced total welfare