What is an Economic Surplus?
Definition: Economic surplus is a term used to denote the benefit that suppliers obtain on selling a good or service at a much higher price than they were willing to sell. Likewise, it is the benefit, which consumers enjoy, for paying a much lower price for goods or services as initially anticipated.
Understanding Economic Surplus
Often referred to as total welfare, economic surplus amounts to the sum of a producer surplus and consumer surplus. In this case, the consumer surplus is the difference between the highest price that a consumer is willing to pay for a good and service on offer and the actual market price.
The producer surplus, on the other hand, is the difference between the prevailing market price of an item or service and the price a producer is willing to charge. To producers, economic surplus amounts to a profit garnered on the sale of a good or service. To consumers, it amounts to a discount collected on the purchase of a good or service.
Economic Surplus: Supply and Demand
Economic surplus has a direct correlation to supply and demand in any market. Producers would be willing to supply more goods into the market when they are able to fetch a maximum price at any given time. Likewise, consumers would be willing to purchase goods and services in bulk when they are able to purchase them at desired prices.
Similarly, the two forces must come to equilibrium to be able to get what they need from the market. A producer should be convinced that the prevailing market prices would lead to a higher producer surplus to be able to supply the market. Likewise, the consumer should be convinced the prevailing market price amounts to a significant discount.
The intersection of supply and demand curves often gives rise to the market price of as well as the quantity of goods up for sale. However, before the two curves intersect, there is usually a big space that indicates the price consumers are willing to pay for an item is much higher than what producers would be willing to accept. The disparity, in this case, is considered a surplus for both the consumer and producer
Consider a car producer planning to sell a new car at $30,000 but instead ends up receiving $31,000. The difference in this case, which is $1000, is the producer surplus. Therefore, if the producer ends up selling ten cars, he would end up with a total producer surplus of $10,000, which amounts to profit.
Consumer surplus, on the other hand, happens from the viewpoint of a consumer. Consider a consumer who is willing to pay $30,000 for a new car but ends up paying $29,000 instead. The consumer surplus, in this case, would be $1,000.
The two surpluses, producers surplus and consumer plus, when put together amount to economic surplus.
Economic Surplus Example
Consider Tom, who is looking to purchase a new smartphone but not ready to pay more than $700. Upon visiting a smartphone shop and going through all the phones on offer, Tom settles on a phone going for $500. Tom will, in this case, pay $500 and enjoy a consumer surplus of $200.
From the smartphone shop perspective, if the minimum price for the smartphone was $400, the firm would end up with a producer surplus of $100
The economic surplus of the entire transaction, in this case, would amount to $200 + $100 = $300.
Summary
Economic surplus amounts to the benefit enjoyed by both the producer and consumer in any given transaction. In ideal economic conditions, it is assumed that both producers and consumers enjoy the maximum benefit in the form of profits and discounts. Likewise, the point at which prevailing market conditions stabilize so that consumers and producers enjoy maximum surplus amounts to market equilibrium.