Prepared by Dr Della Lee Sue, Marist College MICROECONOMICS: Theory & Applications Chapter 10: Using the Competitive Model By Edgar K Browning & Mark A Zupan John Wiley & Sons, Inc 12th Edition, Copyright 2015 Copyright © 2015 John Wiley & Sons, Inc All rights reserved Learning Objectives  Show how changes in market conditions or government policies affect the welfare of consumers, producers, and market participants as a whole  Analyze the effects of an excise tax on a specific good on the welfare of consumers, producers, and market participants as a whole  Detail how regulation of the U.S airline industry affected fares, airline company profits, and service quality (continued) Copyright © 2015 John Wiley & Sons, Inc All rights reserved Learning Objectives (continued)  Explain how the entry restrictions imposed by most major U.S cities on taxis affect fares and the profits earned by licensed taxi owners  Understand the effects of international trade on consumer and producer surplus and why a net gain results to a country from either imports or exports  Explore how government-specified maximum quantities, or quotas, on sugar imports affect consumers, domestic producers, and the net welfare of the United States as well as other countries that produce sugar Copyright © 2015 John Wiley & Sons, Inc All rights reserved Show how changes in market conditions or government policies affect the welfare of consumers, producers, and market participants as a whole 10.1 THE EVALUATION OF GAINS AND LOSSES Copyright © 2015 John Wiley & Sons, Inc All rights reserved The Evaluation of Gains and Losses  Consumer surplus – a measure of the net gain to a consumer or group of consumers from purchasing a good arising from cost being below the maximum that consumers are willing to pay  Producer surplus – gains to producers from the sale of output to consumers, arising from price exceeding the minimum necessary to compensate the seller Copyright © 2015 John Wiley & Sons, Inc All rights reserved Producer Surplus Who gets the producer surplus? Suppliers of inputs to the industry if the supply curve is upward-sloping Owners of inputs with horizontal supply curves to the industry receive no producer surplus There is no aggregate producer surplus for a constant-cost competitive industry in long-run equilibrium Copyright © 2015 John Wiley & Sons, Inc All rights reserved Figure 10.1 - Producer Surplus Copyright © 2015 John Wiley & Sons, Inc All rights reserved Consumer Surplus, Producer Surplus, and Efficient Output   Total surplus – approaches:  the sum of producer and consumer surplus  the sum of total surplus associated with each unit of output, added over all units of output Efficiency in output – the condition in which output is expanded to the point where marginal benefit equals marginal cost Copyright © 2015 John Wiley & Sons, Inc All rights reserved Figure 10.2 - Competition Maximizes Total Surplus Copyright © 2015 John Wiley & Sons, Inc All rights reserved The Deadweight Loss of a Price Ceiling  Deadweight loss – also called welfare cost, a measure of the aggregate loss in well-being of participants in a market resulting from an inefficient output level  Comparison of changes in consumer surplus and producer surplus indicate who gains and who loses Copyright © 2015 John Wiley & Sons, Inc All rights reserved 10 The Airline Industry After Deregulation Since the domestic airline industry was deregulated, several changes have occurred:     The cost of air travel to consumers has fallen A major restructuring of the industry has taken place New entrants into the industry have been able to operate at lower costs than the established carriers Air service to small communities has increased but fares have also gone up Copyright © 2015 John Wiley & Sons, Inc All rights reserved 26 The Contestability of Airline Markets Contestable markets – markets in which competition is so perfect that the market price is independent of the number of firms currently serving a market, because the mere possibility of entry suffices to discipline the actions of incumbent suppliers Copyright © 2015 John Wiley & Sons, Inc All rights reserved 27 The Push for Reregulation   Concerns after deregulation:  Greater congestion at airports  Issues of airline safety Possible solutions:  Re-regulation  Expand airport capacity  Implement peak-load pricing Copyright © 2015 John Wiley & Sons, Inc All rights reserved 28 Explain how the entry restrictions imposed by most major U.S cities on taxis affect fares and the profits earned by licensed taxi owners 10.4 CITY TAXICAB MARKETS Copyright © 2015 John Wiley & Sons, Inc All rights reserved 29 City Taxicab Markets  Medallion – a city-issued taxi license; fixed supply  Value of medallion: determined by expected profitability of operating a taxi  Results include higher fares and lower output than under unregulated conditions  Alternative regulation: maximum fares (price ceiling)  Illegal markets in transportation services develop Copyright © 2015 John Wiley & Sons, Inc All rights reserved 30 Figure 10.9 – Licensing Taxicabs Copyright © 2015 John Wiley & Sons, Inc All rights reserved 31 Understand the effects of international trade on consumer and producer surplus and why a net gain results to a country from either imports or exports 10.5 CONSUMER AND PRODUCER SURPLUS, AND THE NET GAINS FROM TRADE Copyright © 2015 John Wiley & Sons, Inc All rights reserved 32 Consumer and Producer Surplus, and the Net Gains from Trade   Why examine international trade?  Interdependency between economies of nations  Address the question: Is free trade harmful to a nation’s welfare? Why does international trade arise?   Sellers and buyers in different countries find it in their interests to deal with one another When will market equilibrium occur?  When the price is the same in both the domestic market and the international market Copyright © 2015 John Wiley & Sons, Inc All rights reserved 33 Figure 10.10 - International Trade Copyright © 2015 John Wiley & Sons, Inc All rights reserved 34 The Gains from International Trade  “(A) net gain to the United States as a whole” does not mean that every U.S citizen gains  Compare the change in the consumer surplus with the change in the producer surplus Copyright © 2015 John Wiley & Sons, Inc All rights reserved 35 Figure 10.11 - The Gains from Free Trade [International Trade] Copyright © 2015 John Wiley & Sons, Inc All rights reserved 36 The Link Between Imports and Exports Both nations are better off from trading  When nations trade, one country’s imports are the other country’s exports  When the U.S imports goods from the rest of the world, the dollars used to pay international suppliers for those goods come back to the U.S economy in the form of international demand for U.S exports  Currency is a medium of exchange between imports and exports Free trade neither creates or destroys currency Copyright © 2015 John Wiley & Sons, Inc All rights reserved 37 Explore how government-specified maximum quantities, or quotas, on sugar imports affect consumers, domestic producers, and the net welfare of the United States as well as other countries that produce sugar 10.6 GOVERNMENT INTERVENTION IN MARKETS: QUANTITY CONTROLS Copyright © 2015 John Wiley & Sons, Inc All rights reserved 38 Government Intervention in Markets: Quantity Controls    Quotas – government-imposed maximum quantities of goods Application: sugar import quota in the United States Effect of quotas:  Deadweight loss occurs  Markets of related products are affected  Price differentials between countries arise in the regulated market Copyright © 2015 John Wiley & Sons, Inc All rights reserved 39 Figure 10.12 - The Sugar Import Quota Copyright © 2015 John Wiley & Sons, Inc All rights reserved 40 ... imposed by most major U.S cities on taxis affect fares and the profits earned by licensed taxi owners  Understand the effects of international trade on consumer and producer surplus and why... fares, airline company profits, and service quality 10. 3 AIRLINE REGULATION AND DEREGULATION Copyright © 2015 John Wiley & Sons, Inc All rights reserved 22 Airline Regulation and Deregulation ... in well-being of participants in a market resulting from an inefficient output level  Comparison of changes in consumer surplus and producer surplus indicate who gains and who loses Copyright