Eli5: Why consumer surplus is shown under demand curve and above selling price ?
In: Economics
People are willing to pay different prices for the same thing. Suppose I really like sandwiches, so I would pay $10 for a sandwich at a cafe. You don’t like sandwiches as much, so you would only pay $5. The cafe wants business from both of us, so it sets the price of the sandwich at $5. When you buy the sandwich, you exchange $5 for something you value at $5, no real improvement. But when *I* buy the sandwich, I exchange $5 for something I value at $10. The difference between what I pay and what I get is my consumer surplus.
In a supply and demand graph, the demand function (roughly) describes the willingness to pay of different people who might buy the good, in decreasing order. In our sandwich example, you would be right where the demand curve intersects the price. I would be to the left with a value of 10 on the y-axis. To calculate my consumer surplus, you need to subtract the price from that value. To calculate everyone’s consumer surplus, you do that for everyone to the left of the quantity sold, hence taking the area under the demand curve and above the selling price.
The demand curve tells you what the consumer would be willing to give up to get the product. The selling price tells you what the consumer actually gives up. The difference between the two is essentially what the consumer gets without paying for it. Like, if I thought a house is worth a million, but I only pay 600,000 for it, I’ve essentially gotten 400,000 of value for free. That’s the surplus.
Now go do your own homework.
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