Today, we will discuss the consumer surplus. We will also check the tool that allows you to calculate it easily and help you in making your decision. This may seem a bit complicated but don’t be intimidated, as we’ll break it down for you and explain everything step by step.
This handy tool is intended to help you determine the distinction between the market price of the items (goods or services) and what customers are ready to pay for. Here, you can find everything you need to know about consumer surplus (also known as social surplus).
You can learn how to use the formula for consumer surplus and compute this value by yourself. Based on the result, you will get a better idea of what your consumers or buyers are willing to pay and change the prices as needed. Let’s take a closer look!
Consumer Surplus: What Is It?
Before reviewing the calculator, we will explain the consumer surplus and go from there. So, what is that?
Consumer surplus is the difference between what a buyer is willing to pay and what he/she actually pays. In other words, it represents the difference between what people would like to pay and what they really do pay. This is the monetary gain that consumers get from buying a good or service for a price that is lower than what they are ready to pay. So, it is the amount of money that the consumer saves or gains by purchasing a product.
There are different ways to calculate it. Consumer surplus can be calculated by taking the price of a product and subtracting it from the maximum price that consumers would be willing to pay for it. It can also be calculated by taking the price of a product and subtracting how much money they spent on it. This concept is often used in economics to measure the benefits of trade.
Likewise, it can be calculated by subtracting the private marginal benefit from the private marginal cost of a transaction and then dividing the difference by the price. Another method to get the consumer surplus involves revenue – it can also be calculated from total revenue minus the total cost and then divided by total revenue.
How Does It Work?
You don’t have to be a professional economist to figure out how it works. We will try to keep it simple to make it easier for you to understand this concept. When it comes to the consumer surplus, a few things come into play, including:
- Supply
- Demand, and
- Price versus quantity.
The demand tends to go down as the price decreases over time. That’s because the lower price of an item or article translates into higher demand. On the other hand, this causes supply to increase. This happens because if you manage to sell your product or service at a higher price, you will produce more, right? That’s how it is done by manufacturers.
You might be wondering what the consumer surplus would be in this case. Take a look at the consumer surplus graph below.
As you can see, the area between the demand curve and equilibrium price is the consumer surplus. The equilibrium price is the price at which the quantity demanded and the quantity supplied are equal. It is determined by the market forces of supply and demand. The equilibrium price can be calculated by taking into account both demand and supply curves. In a perfectly competitive market, the equilibrium price is determined by the intersection of the demand curve and supply curve.
Consumer Surplus Formula
Let’s see how the consumer surplus is calculated. If you understand the definition that we mentioned above, then it will not be difficult for you to realize the calculation behind our calculator. It uses the following formula:
Consumer Surplus = maximum price willing to pay – actual market price
Example
Let’s say the actual price of the product you want to purchase is $500 while the willing price (the price that you are willing to pay as a consumer) is $400. Then the consumer surplus is 500 – 400 = $100. This money can be saved, invested, or spent on other services and/or goods. It’s very easy to calculate, right?
While this formula is enough for most people, as it allows them to quickly compute the consumer surplus, you may also want to calculate it for a whole economy. If you are not an economist, you can ignore the section below.
This involves using an extended formula version:
Extended Consumer Surplus (ECS) = (0.5 * Qd) – Pmax – Pd
- Qd = the quantity demanded, providing that supply and demand are identical
- Pmax = the max price the consumers are willing to pay
- Pd = the price at equilibrium, providing that supply and demand are identical
FAQs
Why Is Consumer Surplus Important?
Consumer surplus is a measure of the benefit that a consumer derives from trading in a less-valued good or service for something that has greater value. It is the difference between what consumers are willing to pay and what they actually pay (or, equivalently, the excess of price over marginal cost). The utility gained by an individual after consuming or using a good or service and being satisfied with their purchase.
What is Consumer Equilibrium?
The consumer equilibrium is the price at which both demand and supply are identical. It is determined by supply and demand market dynamics. Both the demand and supply curves can be used to compute the equilibrium price. The intersection of the demand and supply curves determines the equilibrium price in a perfectly competitive market.
Who Benefits Consumer Surplus and Is It Good or Bad?
As the difference between the price a consumer is willing to pay and the market price, the consumer surplus is a measure of consumer satisfaction. Aside from that, it is also an indicator of how well markets are functioning.
The benefits of consumer surplus are not limited to just consumers. They also include producers because they get higher profits than they would in a world without consumer surplus. Consumer surplus is good for society because it means that people are getting more out of their purchases than what they paid for them.