CHAPTER 4|Economic Efficiency, Government Price Setting, and Taxes
When you finish this chapter, you should be able to:
1.Distinguish between the concepts of consumer surplus and producer surplus. Consumer surplus
is the benefit consumers receive from paying a price lower than the maximum price they would be
willing to pay. Producer surplus is the benefit a firm receives from selling a good or a service at a
price higher than the minimum the firm would be willing to accept. Economic surplus is the consumer
surplus plus producer surplus.
2.Understand the concept of economic efficiency. Maximum economic efficiency results when the
marginal benefit received by consumers from the last unit bought equals the marginal cost to
producers from selling the unit. An economically efficient outcome occurs when a competitive
market equilibrium is reached.
3.Explain the economic effect of government-imposed price ceilings and price floors. Though total
economic surplus is maximized when a competitive market equilibrium is reached, individual
consumers would rather pay a price lower than the equilibrium price and individual producers would
rather charge a higher price. Producers or consumers who are dissatisfied with the equilibrium price
can lobby government to legally require a different price. When the government intervenes it can aid
sellers by requiring a price above equilibrium, a price floor, or it can aid consumers by requiring a
price below equilibrium, a price ceiling. Price floors and ceilings reduce economic efficiency, causing
a deadweight loss.
4.Analyze the economic impact of taxes. Whenever a government places a tax on a good or service,
economic efficiency is reduced. Some of the reduction in economic surplus due to the tax becomes
revenue for the government while the rest of the reduction is a deadweight loss, that is, a net
reduction in economic surplus that is not transferred to government or anyone.
Chapter Opener: Should the Government Control Apartment Rents? (pages 98-99)
Rent control is an example of a price ceiling. Rent controls exist in about 200 cities in the United States.
Although the rules that govern rent control are complex and vary by city, rent control drives up the
demand and price for apartments not subject to the controls. Like any price control, rent control also has
many unintended consequences including lower quality of rent-controlled units, black markets, and
unwanted, inefficient side conditions.
Helpful Study Hint
Read Solved Problem 4-3 and An Inside Look from this chapter to
reinforce your understanding of the impact of rent control on the demand
and supply of apartments.
Economics in YOUR Life! asks if rent control makes it easier
for you to find an affordable apartment. Keep this question in mind as
you read the chapter. The authors will answer this question at the end of