Consumer surplus: Case Studies: Real World Examples of Consumer Surplus

1. What is consumer surplus and why is it important?

One of the most fundamental concepts in economics is consumer surplus. It measures the difference between the maximum price that a consumer is willing to pay for a good or service and the actual price that they pay. In other words, it is the amount of money that a consumer saves or gains from buying a product at a lower price than they value it. Consumer surplus is important for several reasons:

- It reflects the welfare or satisfaction that consumers derive from purchasing a good or service. The higher the consumer surplus, the more benefit or utility they receive.

- It helps to evaluate the efficiency and equity of different market structures and policies. For example, a competitive market maximizes the total consumer surplus, while a monopoly reduces it by charging a higher price and producing less output. Similarly, a tax or a subsidy can affect the consumer surplus by changing the price and quantity traded.

- It enables comparison and aggregation of the preferences and values of different consumers. For example, by using the demand curve, we can estimate the total consumer surplus in a market by adding up the individual consumer surpluses of all buyers.

To illustrate the concept of consumer surplus, let us consider some real-world examples of how consumers benefit from buying goods or services at a lower price than they value them.

- Air travel: Suppose you are planning to fly from New York to London for a vacation. You are willing to pay up to $1,500 for a round-trip ticket, but you find a deal online for only $800. Your consumer surplus is $1,500 - $800 = $700. This means that you save $700 from buying the ticket at a lower price than you value it. You can use this money for other purposes, such as accommodation, food, or entertainment.

- Online shopping: Suppose you are looking for a new laptop online. You are willing to pay up to $1,000 for a laptop that meets your specifications and preferences, but you find one on sale for only $700. Your consumer surplus is $1,000 - $700 = $300. This means that you gain $300 from buying the laptop at a lower price than you value it. You can use this money for other purchases, such as accessories, software, or services.

- Streaming services: Suppose you are a fan of movies and TV shows and you subscribe to a streaming service that offers unlimited access to a large library of content for a monthly fee of $10. You are willing to pay up to $20 per month for this service, but you only pay $10. Your consumer surplus is $20 - $10 = $10. This means that you benefit $10 from buying the service at a lower price than you value it. You can use this money for other forms of entertainment, such as books, music, or games.

2. How consumers benefit from lower prices and higher quality of mobile devices?

One of the most dynamic and innovative markets in the world is the market for smartphones. These devices have become essential for many people, as they offer a range of functions and features that enhance communication, productivity, entertainment, and more. The smartphone market is also characterized by intense competition, rapid technological change, and diverse consumer preferences. These factors have led to a significant consumer surplus in this market, which means that consumers are able to enjoy more benefits from their purchases than what they pay for them. In this section, we will explore how consumers benefit from lower prices and higher quality of mobile devices, and how this affects their welfare and behavior. We will consider the following aspects:

- The impact of price reductions on consumer surplus. One of the main drivers of consumer surplus in the smartphone market is the decline in prices over time. As new models are introduced, older models become cheaper and more affordable for a larger segment of consumers. This means that consumers can buy more smartphones or better smartphones for the same budget, or save money for other purposes. For example, according to a report by Statista, the average selling price of smartphones worldwide decreased from $348 in 2010 to $215 in 2020, a drop of 38%. This implies that consumers who bought a smartphone in 2020 paid $133 less than what they would have paid in 2010 for a similar device, which represents a gain in consumer surplus.

- The impact of quality improvements on consumer surplus. Another factor that contributes to consumer surplus in the smartphone market is the improvement in quality and performance of mobile devices over time. As technology advances, smartphones become faster, smarter, more durable, and more versatile. This means that consumers can enjoy more features and functions from their devices, and have a better user experience. For example, according to a report by Counterpoint Research, the average battery capacity of smartphones increased from 1,510 mAh in 2012 to 3,969 mAh in 2020, a growth of 163%. This implies that consumers who bought a smartphone in 2020 could use their device for longer hours without charging, which represents a gain in consumer surplus.

- The impact of consumer heterogeneity on consumer surplus. A third factor that influences consumer surplus in the smartphone market is the diversity and variation in consumer preferences and needs. Different consumers have different tastes, expectations, and requirements for their mobile devices, and the smartphone market offers a wide range of options and choices to cater to them. This means that consumers can find the smartphone that best suits their personal preferences and needs, and have a higher satisfaction and utility from their purchase. For example, according to a survey by Deloitte, the most important features that consumers look for in a smartphone are battery life, camera quality, ease of use, and storage capacity, but the ranking of these features varies across different age groups, regions, and income levels. This implies that consumers can select the smartphone that matches their priorities and preferences, which represents a gain in consumer surplus.

In summary, the market for smartphones generates a large consumer surplus for its customers, as they benefit from lower prices and higher quality of mobile devices. This enhances their welfare and happiness, and also affects their consumption and saving behavior. In the next section, we will discuss how consumer surplus can be measured and estimated in this market, and what are the challenges and limitations of doing so.

3. How consumers save money and time by flying to different destinations?

One of the most common and significant examples of consumer surplus in the modern economy is the market for air travel. Air travel enables consumers to reach different destinations around the world in a relatively short amount of time, compared to other modes of transportation such as road, rail, or sea. Air travel also offers consumers a variety of choices in terms of airlines, routes, prices, and services, which increases their welfare and satisfaction. Consumer surplus in the market for air travel can be measured by the difference between the maximum amount that consumers are willing to pay for a flight ticket and the actual price that they pay.

There are several factors that affect the consumer surplus in the market for air travel, such as:

- Demand and supply: The demand for air travel depends on the preferences, income, and expectations of consumers, as well as the availability and quality of substitutes and complements. The supply of air travel depends on the costs, capacity, and competition of airlines, as well as the regulations and policies of governments and authorities. Changes in demand and supply can cause shifts or movements in the demand and supply curves, which in turn affect the equilibrium price and quantity, and the consumer surplus in the market.

- price discrimination: Price discrimination is a strategy that airlines use to charge different prices to different groups of consumers, based on their willingness to pay, elasticity of demand, or other characteristics. Price discrimination can increase the total revenue and profit of airlines, as well as the total consumer surplus in the market, by capturing more of the consumer surplus from each group of consumers. However, price discrimination can also reduce the consumer surplus for some groups of consumers, such as those who are charged higher prices or face more restrictions or conditions.

- Externalities: externalities are the positive or negative effects that the production or consumption of air travel has on third parties, who are not directly involved in the market. Externalities can affect the social welfare and efficiency of the market, as well as the consumer surplus of the consumers. For example, air travel can generate positive externalities such as increased tourism, trade, and cultural exchange, which can benefit the consumers and the society. On the other hand, air travel can also generate negative externalities such as noise, pollution, and greenhouse gas emissions, which can harm the consumers and the environment.

To illustrate the concept of consumer surplus in the market for air travel, let us consider the following example:

Suppose that Alice wants to fly from New York to London for a vacation. She is willing to pay up to $1,000 for a round-trip ticket, but she finds a ticket online for $600. She buys the ticket and flies to London. Her consumer surplus is the difference between her willingness to pay and the actual price that she pays, which is $400. This means that Alice values the flight more than what she pays for it, and she gains $400 worth of satisfaction from the transaction.

Now suppose that Bob also wants to fly from New York to London for a vacation. He is willing to pay up to $800 for a round-trip ticket, but he finds a ticket online for $700. He buys the ticket and flies to London. His consumer surplus is the difference between his willingness to pay and the actual price that he pays, which is $100. This means that Bob values the flight slightly more than what he pays for it, and he gains $100 worth of satisfaction from the transaction.

The total consumer surplus in the market for air travel is the sum of the consumer surplus of all the consumers who buy flight tickets. In this example, the total consumer surplus is $400 + $100 = $500. This means that the consumers in the market value the flights more than what they pay for them, and they gain $500 worth of satisfaction from the transactions.

4. How consumers receive better health outcomes and preventive care at lower risks?

One of the most important and complex markets in the world is the market for health care. Health care is a vital service that affects the well-being and quality of life of millions of people. However, unlike other markets, health care has some unique features that make it difficult to measure and compare the benefits and costs of different products and services. In this section, we will explore how consumer surplus, the difference between the maximum amount a consumer is willing to pay and the actual amount they pay, can be used to analyze the market for health care and its implications for consumers, producers, and society.

Some of the factors that influence consumer surplus in the market for health care are:

- Demand and supply: The demand for health care depends on many factors, such as income, preferences, health status, insurance coverage, availability of substitutes, and expectations. The supply of health care depends on factors such as technology, costs, regulations, and competition. The interaction of demand and supply determines the equilibrium price and quantity of health care in the market. Consumer surplus is the area below the demand curve and above the price line, while producer surplus is the area above the supply curve and below the price line. The sum of consumer and producer surplus is the total surplus, which measures the net benefit to society from the market.

- price elasticity: The price elasticity of demand measures how responsive consumers are to changes in the price of health care. The more elastic the demand, the more sensitive consumers are to price changes, and the more consumer surplus changes as a result. For example, if the demand for health care is elastic, a small increase in price will lead to a large decrease in quantity demanded, and a large decrease in consumer surplus. On the other hand, if the demand for health care is inelastic, a small increase in price will lead to a small decrease in quantity demanded, and a small decrease in consumer surplus. The price elasticity of supply measures how responsive producers are to changes in the price of health care. The more elastic the supply, the more sensitive producers are to price changes, and the more producer surplus changes as a result.

- market power: market power refers to the ability of a firm or a group of firms to influence the price and quantity of health care in the market. Market power can arise from various sources, such as monopoly, oligopoly, collusion, differentiation, or barriers to entry. Market power can affect consumer surplus by creating a gap between the marginal cost and the price of health care, which results in a deadweight loss, a reduction in total surplus due to inefficient allocation of resources. For example, if a monopoly provider of health care charges a higher price than the competitive price, it will reduce the quantity demanded and create a deadweight loss, as some consumers who value health care more than the marginal cost will be excluded from the market. The monopoly will also capture some of the consumer surplus as profit, which transfers wealth from consumers to producers.

- Externalities: Externalities are the positive or negative effects of an economic activity on a third party who is not directly involved in the market. Externalities can affect consumer surplus by creating a divergence between the private and the social benefits and costs of health care. For example, if health care has a positive externality, such as preventing the spread of infectious diseases, the social benefit of health care will be higher than the private benefit, and the optimal quantity of health care will be higher than the market quantity. This will create a deadweight loss, as some consumers who value health care more than the social cost will be excluded from the market. To correct this market failure, the government can intervene by providing subsidies, public goods, or regulations to increase the consumption of health care and increase consumer surplus. On the other hand, if health care has a negative externality, such as generating medical waste or antibiotic resistance, the social cost of health care will be higher than the private cost, and the optimal quantity of health care will be lower than the market quantity. This will also create a deadweight loss, as some consumers who value health care less than the social cost will be included in the market. To correct this market failure, the government can intervene by imposing taxes, fines, or regulations to reduce the consumption of health care and decrease consumer surplus.

To illustrate these concepts, let us consider some examples of consumer surplus in the market for health care:

- Example 1: Suppose that the demand for a new vaccine for a deadly virus is given by the equation Q = 100 - 10P, where Q is the quantity of vaccines in millions of doses and P is the price of vaccines in dollars per dose. The supply of vaccines is given by the equation Q = 10 + 10P. The equilibrium price and quantity are $5 and 50 million doses, respectively. The consumer surplus is the area of the triangle below the demand curve and above the price line, which is equal to 0.5 x (100 - 50) x (10 - 5) = $125 million. The producer surplus is the area of the triangle above the supply curve and below the price line, which is equal to 0.5 x (50 - 10) x (5 - 0) = $100 million. The total surplus is the sum of consumer and producer surplus, which is equal to $225 million.

- Example 2: Suppose that the government decides to impose a tax of $2 per dose on the producers of the vaccine to raise revenue for public health programs. This will shift the supply curve up by $2, and the new equilibrium price and quantity will be $6 and 40 million doses, respectively. The consumer surplus will be the area of the triangle below the demand curve and above the new price line, which is equal to 0.5 x (100 - 40) x (10 - 6) = $120 million. The producer surplus will be the area of the triangle above the new supply curve and below the new price line, which is equal to 0.5 x (40 - 10) x (6 - 2) = $80 million. The tax revenue will be the area of the rectangle between the old and the new supply curves and below the new price line, which is equal to (6 - 4) x 40 = $80 million. The total surplus will be the sum of consumer surplus, producer surplus, and tax revenue, which is equal to $280 million. However, there will also be a deadweight loss, which is the area of the triangle between the old and the new supply curves and below the demand curve, which is equal to 0.5 x (50 - 40) x (6 - 4) = $10 million. This represents the loss of efficiency due to the tax, as some consumers who value the vaccine more than the marginal cost will be excluded from the market.

- Example 3: Suppose that the vaccine has a positive externality, such that each dose of the vaccine not only protects the individual who receives it, but also reduces the probability of infection for others by 0.01. This means that the social benefit of the vaccine is higher than the private benefit by $0.01 x Q, where Q is the total quantity of vaccines in the market. The social demand curve for the vaccine is given by the equation Q = 110 - 10P, which is above the private demand curve by $0.01 x Q. The optimal quantity of the vaccine that maximizes the total surplus is given by the intersection of the social demand curve and the supply curve, which is $4.5 and 55 million doses, respectively. The consumer surplus is the area of the triangle below the social demand curve and above the optimal price line, which is equal to 0.5 x (110 - 55) x (10 - 4.5) = $137.5 million. The producer surplus is the area of the triangle above the supply curve and below the optimal price line, which is equal to 0.5 x (55 - 10) x (4.5 - 0) = $112.5 million. The total surplus is the sum of consumer and producer surplus, which is equal to $250 million. However, in the absence of any government intervention, the market quantity of the vaccine will be lower than the optimal quantity, as the private demand curve does not reflect the full social benefit of the vaccine. This will create a deadweight loss, which is the area of the triangle between the private and the social demand curves and below the supply curve, which is equal to 0.5 x (55 - 50) x (5 - 4.5) = $1.25 million. This represents the loss of efficiency due to the positive externality, as some consumers who value the vaccine more than the social cost will be excluded from the market. To correct this market failure, the government can provide a subsidy of $0.01 x Q to the consumers or the producers of the vaccine, which will shift the private demand curve up to the social demand curve and increase the consumption of the vaccine to the optimal level. Alternatively, the government can provide the vaccine as a public good, which will eliminate the price and quantity constraints and achieve the optimal allocation of resources.

5. How consumer surplus enhances social welfare and economic efficiency?

The concept of consumer surplus has important implications for social welfare and economic efficiency. Consumer surplus measures the difference between the maximum price that consumers are willing to pay for a good or service and the actual price that they pay. This difference represents the net benefit that consumers gain from purchasing the good or service at a lower price than their willingness to pay. Consumer surplus can be used to assess how different policies or events affect the well-being of consumers and society as a whole. Some of the ways that consumer surplus enhances social welfare and economic efficiency are:

- Consumer surplus reflects the value that consumers derive from a good or service. The higher the consumer surplus, the more value consumers obtain from their purchases. This value can be translated into higher utility, satisfaction, or happiness for consumers. For example, if a consumer is willing to pay $100 for a concert ticket but only pays $50, they gain a consumer surplus of $50. This means that they value the concert experience at $100, but only have to give up $50 of their income to enjoy it. This increases their utility and happiness by $50.

- consumer surplus can be used to measure the efficiency of a market or an allocation of resources. Efficiency means that resources are used in a way that maximizes the total surplus of society, which is the sum of consumer surplus and producer surplus. Producer surplus is the difference between the actual price that producers receive for a good or service and the minimum price that they are willing to accept. A market or an allocation is efficient if it is not possible to make anyone better off without making someone else worse off. This is also known as the Pareto efficiency criterion. For example, if a market is in equilibrium, where the quantity demanded equals the quantity supplied, then the market is efficient. At the equilibrium price and quantity, the consumer surplus and the producer surplus are maximized, and there is no deadweight loss. Deadweight loss is the reduction in total surplus that results from an inefficient allocation of resources, such as when there is a market failure. A market failure occurs when the market fails to achieve an efficient outcome due to externalities, public goods, asymmetric information, or market power. For example, if there is a negative externality, such as pollution, then the market equilibrium is inefficient. The market equilibrium does not take into account the social cost of pollution, which reduces the welfare of society. To correct this market failure, the government can impose a Pigouvian tax on the polluting activity, which shifts the supply curve up by the amount of the tax. This reduces the quantity supplied and increases the price, which reflects the true social cost of the good or service. This also reduces the consumer surplus and the producer surplus, but increases the tax revenue. The tax revenue can be used to compensate the victims of pollution or to fund environmental projects. The net effect is that the total surplus of society increases, and the deadweight loss decreases. This is a more efficient outcome than the market equilibrium.

- Consumer surplus can be used to evaluate the equity or fairness of a market or an allocation of resources. Equity means that resources are distributed in a way that is fair or just according to some normative criterion. Equity is a subjective and value-based concept, and different people may have different views on what is fair or just. One possible criterion for equity is the utilitarian criterion, which states that resources should be distributed in a way that maximizes the total utility or happiness of society. Under this criterion, consumer surplus can be used to measure the utility or happiness of consumers. A more equitable outcome is one that increases the total consumer surplus of society, or that equalizes the consumer surplus across different groups of consumers. For example, if a market is characterized by perfect competition, where there are many buyers and sellers, no barriers to entry or exit, homogeneous products, and perfect information, then the market is efficient but not necessarily equitable. The market equilibrium allocates resources according to the willingness to pay of consumers, which depends on their income and preferences. This may result in unequal distribution of consumer surplus among consumers with different income levels or preferences. For example, if a consumer has a high income and a high willingness to pay for a luxury good, they may gain a large consumer surplus from purchasing the good at the market price. On the other hand, if a consumer has a low income and a low willingness to pay for a necessity good, they may gain a small consumer surplus or even a negative consumer surplus from purchasing the good at the market price. This may create a situation of inequality or poverty among consumers. To address this issue, the government can implement a redistributive policy, such as a subsidy or a price ceiling, which lowers the price of the necessity good for the low-income consumers. This increases their consumer surplus and their utility or happiness. This also reduces the consumer surplus and the utility or happiness of the high-income consumers, but this may be justified by the diminishing marginal utility principle, which states that the additional utility or happiness that a consumer gains from an extra unit of a good or service decreases as they consume more of it. For example, if a consumer already has 10 units of a good, they may value the 11th unit less than if they only had 1 unit of the good. Therefore, transferring a unit of the good from the high-income consumer to the low-income consumer may increase the total utility or happiness of society, or make it more equal. This is a more equitable outcome than the market equilibrium.