Surplus graphs help you understand the benefit you will get by selling a product. Surplus graphs are of different types and can vary from producer surplus to consumer surplus. Surplus refers to the amount a produce/service provider gets against the product/service minus the actual cost. The consumer surplus formula which is usually depicted in the form of surplus graphs is based on the economic theory of marginal utility. This theory defines the spending behavior of the consumer along with their preferences individually. Different people spend differently on a certain product or service; thus further creating a surplus. This term is used widely among economists and corporate financial circles.
Calculating consumer surplus graphs through a formula
The formula for calculating consumer surplus is to minus the maximum price a consumer is willing to pay vs. the actual price paid for that product by a consumer.
The formula is:
Consumer surplus = maximum price willing – actual price
Exploring consumer surplus on a larger scale
When considering marketing as a whole, demand curves are of high importance for consumer surplus measurement. Demand supply graphs’ demand curve represents the association between the cost of a product and its demand at that particular price. We apply the diminishing marginal utility law, as the demand curve is sloping downwards.
What is a consumer surplus?
A consumer surplus is a surplus in which the consumer receives the product at a price, which is lesser than the price the consumers are willing to pay. Consumer surplus is directly dependent upon the actual market price versus the maximum amount the consumer is willing to pay. This equilibrium is reached in real life as well.
The demand diminishes as the supply increases to attain equilibrium between the quantity and the price of a product. Consumer surplus is often utilized to show the measurement of social welfare. Consumer surplus cannot be used as a sole tool to find out the level of economic welfare, because it is not an independent value and the estimation of a consumer surplus is heavily affected by the production surplus.
What is a producer surplus?
A producer surplus is a difference between the minimum price a producer is ready to receive for certain goods or services. This producer surplus is also depicted in the graph illustrated above. It is exactly aligned with the equation to depict the surplus graphs of the producer. There might be an equilibrium price in the real world where both the producers and consumers enjoy surplus likewise. This can happen if both ends are better off and are not directly proportional to each other. They enjoy benefits independently and separately.
The demand and supply graph of a product describes the concept of economic efficiency in a larger term. Efficiency is defined to improve an impossible situation when one party is defining the cost and imposing it on the other.
In the larger term, the economy gets as many benefits as possible from the scarce resources available, which in the long run helps in trading the possible gains to the maximum. In other words, the profit earned by the supplier is the producer surplus. This means that the producer did not sell on a breakeven price but a price that is slightly aggregated than the price incurred while producing it, resulting in a gain known as producer surplus.
The sum of consumer surplus and the producer surplus results in social surplus which on a larger scale is economic surplus. It is impossible to produce a greater consumer surplus without reducing producer surplus as both are directly related to each other.
Economic welfare
Economic welfare is also known as community surplus. It can be derived from the consumer surplus and producer surplus. In economic terms, the economic decisions directly affect the surplus quotient of the individuals and organizations in the market. Economic welfare is often referred to as Marshallian surplus named after Alfred Marshall.
The economic surplus has an equilibrium of goods and products depicted by a demand curve. Some people are always willing to pay more than the actual price. When the price of a particular product is reduced, the surplus graphs also change. The change in consumer surplus always experiences changes, when small changes are incurred in the prices otherwise the demand curve remains constant. At times price discriminations also affect economic welfare; when more than one producers are available in a market producing a similar product. This can affect the surplus graphs as well, which can deviate from being beneficiary to mere break-even.