CHAPTER 5

Customers, Producers & Efficiency Of the

Market

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Dave
 Contents
• Customers’ Surplus
• Analyses of Marshallian Theory
• Producers’ Surplus
• Market Efficiency
• Market Equilibrium

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• Originally this concept was found by DUPUIT, but it was
MARSHALL who popularized it by presenting it in the
most refined way.

• Customers’ Surplus: CS is the difference between

total amount of money the consumer would have been
willing to pay for a quantity of a commodity & amount he
actually had to pay for it.

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Figure 3 How the Price Affects Consumer Surplus

(a) Consumer Surplus at Price P

Price
A

Consumer
surplus
P1
B C

Demand

0 Q1 Quantity

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 Analyses of Marshallian Theory
• The Marshallian Theory is actually based on certain assumptions
which one has to study, which are as follows…

– Cardinal measurement of the utility:

– Under this concept it is believed that customers always
purchase utilities in the same manner with equal time
duration & the same quantity.

– Diminishing marginal utility

– Here it it is assumed that an individual gets the surplus
satisfaction every time he uses the commodity.

– Constant marginal utility of money

– With this assumption Marshall wants to say that
time value of money is constant.

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– Existence of no substitute
– Marshall also assumed that there is a monopolistic
market & customers don’t find substitute of any utility

– Specificity of the utility

– Under this assumption it is believed that every utility has
limited & specific use. Any utility can’t be used for multi
purpose.

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 Criticism of the Marshellian
theory
- Unrealistic assumptions
- Marshal’s assumption was unrealistic for……
1) Utility can not be measured cardinally ; there fore
customer's surplus can not be measured & express
numerically.
2) Marginal utility does not remain constant.
3) Product with no substitute is not possible & even that with
no change in price for long time.

- Measurement impossible
- Marshal has tried to co relate the measurement of
satisfaction with money, but practically it is not possible,
as it only gives an idea of monetary benefit.
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- Meaninglessness of the concept in certain case.
- This concept is meaningless in the certain cases like
‘requirement of the daily requirement i.e. Water, Food
etc . For which customer will be ready to pay any amount
& every time customer will have surplus satisfaction for
the commodity used.

- It is a hypothetical & illustrative concept

- Up to certain level this concept is illustrative &
imaginary as every customer can not fill it.

- No empirical test.
- Marshal has not provide any supportive data to prove
his theory as this is a totally a subjective concept, it is not
capable of empirical testing either.

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 Importance of the concept
- It clarifies the paradox of the value.
- This concept clarifies the paradox of the value, that
commodities like water, food etc have immense value in use
but very low value in price or exchange.

- Conjuncture advantage
- This concept also fails to project the importance of the
surrounding environment because jay of the consumption
depends on the nearby atmosphere which play important
role in increasing or decreasing level of surplus satisfaction.

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- Importance to taxation policy
- Its very useful tool to know the need of increase of indirect
tax. Finance minister can impose indirect taxes where
customer surplus is high.

- Importance to monopolist
- This gives an important idea that how monopolistic firm
should behave in the condition where customer's surplus
is high.

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- Importance in welfare economics.
- By estimating the difference in customer’s surplus by
changing price, we can compare effect of the same
in different class of people.

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• Producers Surplus: PS is the difference between
total amount of money the producer would have been
charging for a quantity of a commodity & amount which
is actual market price.

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Figure 6 How the Price Affects Producer Surplus

(a) Producer Surplus at Price P

Price
Supply

B
P1
C
Producer
surplus

0 Q1 Quantity
Copyright©2003 Southwestern/Thomson Learning
• Market efficiency & market equilibrium:

This is the point where customer & producer both are

enjoying equal amount of the surplus because of which
both become satisfied & this particular situation creates
market equilibrium in the market where customers &
producers both are enjoying their surplus on their side.

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 Figure 7 Consumer and Producer Surplus in the Market
Equilibrium
Price A

D
Supply

Consumer
surplus

Equilibrium E
price
Producer
surplus

Demand
B

0 Equilibrium Quantity
quantity
Copyright©2003 Southwestern/Thomson Learning
 Case Study….

• Suppose one economic planner called “Benevolelt” with

all powers to take decisions to make economy well going
wants to establish economic well being in the society.
Should he just leave the buyers & sellers at the
equilibrium that they reach naturally on their own? Or
can he increase economic well being by altering the
market out come in some way?

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• Answer is….

A) Customer surplus = value to buyers - Amount paid by buyers

B) Producers Surplus = Amount received by sellers – Cost to sellers

C) Total Surplus = Value to buyers – Cost to sellers

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