Welfare Economics

• General Analysis Overview

• Welfare under Monopoly
• Welfare under Monopsony
• Welfare under Middlemen
 General Analysis Overview
• Welfare analysis is a systematic method of evaluating
economic implications of alternative allocations. It
answers the following questions:
1. Is a given resource allocation efficient?
2. Who gains and who loses under various resource
allocations? By how much?
• Welfare economics: A methodological approach to
assess resource allocations and establish criteria for
government intervention.
• Partial analysis: Evaluates outcomes in a subset of
markets assuming efficiency in others.
 Graphs of Demand and Supply

D = demand curve S = supply curve

Area under demand curve ABC0 = gross Area under supply curve 0ELM =cost
benefits from consumption. of production.
ABP = consumer surplus=area between PLM =producer surplus=area
demand and price. between price and supply
Efficient outcome
When there are no
externalities, an
efficient outcome
occurs where the sum
of consumers’ and
producers’ surplus is
maximized.

Area under demand =

gross benefits
Area under supply =
gross cost
Social surplus = gross
benefit – cost.
 Welfare under Monopoly
• A monopoly is the only seller in a market. The basic condition for a
monopoly is

Maximizes P(Q) Q − C(Q)

Q
P C
• Optimality occurs where: P+Q − = 0
Q Q
• MR(Q)-MC(Q)=0, where MR=marginal revenue and MC=marginal
cost
 Monopoly
P
Qc, Pc=under competition
Qm,Pm=under monopoly
C
A
Pm
Monopoly
produces too little
C
and charges
Pc
too much. Welfare
B loss under
MR monopoly is ABC .
D
Qm Qc Q
Linear Example of Monopoly-1
Inverse demand=
P(Q) =a - bQ
Revenue = (a - bQ)Q =
aQ-bQ2
Supply = c + dQ
Competitive outcome is where
Demand=supply➔
a - bQ = c + dQ
a−c
Qc =
b+ d

ba − bc
Pc = a −
b+d

ad + bc
Pc = .
b+d
Linear Example of Monopoly-2
Under monopoly,
MR=MC
a − 2bQ = c + dQ
a−c
QM =
2b + d

b(a − c )
PM = a −
2b + d
a(b + d ) + bc
=
2b + d
Welfare under Monopsony
• A monopsony is the only buyer in a market.
P MO

MC

Qc, Pc=under
Competition
Pc Qmn,Pmn=under
Monopsony
Pmn
D

Qmn Qc Q
 Calculation of monopsony
• Maximization equation: Maximize B(Q) − QMC(Q)
Q Q
• Area: B(Q) = P(z)dz = area under demand.

0
• Optimality condition: B MC
=Q + MC(Q)
Q Q
• Price paid by monopsony:

MC
MO = marginal outlay = MC(Q) +
Q
 Summary of monopoly and
monopsony
• Monopolist: Underbuys and oversells.
• Monopsonist:Underbuys and underpays.
 Welfare under Middlemen
• A middleman is the only buyer and seller of
product.
MO
P
S

Qmm=middlemen output
Pmmb C Pmms=price paid by
middlemen to supplier
E Pmmb=price paid to
Pmms middlemen by buyer

MR D
Qmm Q
 Profit of middlemen
MO
P
S

Middlemen’s
Pmmb C
Profit=
E
Pmmb,C,E,pmms
Pmms

MR D
Qmm Q
For more detailed please go through the below link

https://www.slideshare.net/ramonnoriel/welfare-economics-14288689