Question

Taking a look at the market for cigarettes. The government taxes them quite a bit. Using this market, write me a short paragraph using these phrases:

Consumer surplus, producer surplus, deadweight loss, shift the supply curve to the left, equilibrium, tax, change in total economic surplus.

Suppose you spend $400 on ingredients, and spend two days baking various breads to sell at a bake sale. At the sale, you sell what you can for $500, and have to throw away the rest, since homemade breads just don't last long. You tell yourself "at least I made a profit of $100!" What kind of profit is this? What would you guess that I (an economist) would say your profit was? Calculate an estimate.

Answer 1

The market for cigarettes can be termed in the oligopoly market. Here there are few number of sellers and large number of buyers.

Consumer surplus in simple terms refers to the difference between the amount which the consumer is willing to pay and what he do pay. If his demand curve for cigar is given and the price for cigar is given, then the consumer surplus is given by the area above this price till the demand curve.

Producer surplus can be termed as the price the seller gets minus the cost of production. This is measured from a supply curve.

Deadweight loss is an allocative efficiency which can occur if the free market equilibrium of a good or service is not achieved. This can easily be explained with the diagram given below:

supply 2 price supply Po Pp demand Qp Qo quantity

The black demand and supply curve intersects at Qp quantity is at the perfect competitive market. But though our case is a monopoly our equilibrium is where they meet at Qo. Thus formed the red area is the deadweight loss. The shift in supply curve is shown by the blue supply curve 2.