Producer Surplus Consumer Surplus - Main Video

Who benefits from trade?

Well, if it's voluntary trade, both parties benefit. How much do the parties benefit? In economics, we use consumer surplus, and producer surplus to measure the net benefit to consumers, and the net benefit to producers of each trade.

So, let's talk about consumer surplus first. This represents the net benefit to the buyer for having the ability to purchase something at a price that's less than what they are willing and able to pay for it.

Now, what about the other side of the market? The producer also gets a benefit, and the benefit to the producer would be the difference between the price that they get, and the price that they were willing to sell it for, which is represented by what it would cost them to produce the good.

Suppose that a consumer came into the restaurant and was very hungry, and had a craving for a western omelet. They look on the menu, and there is no western omelet on the menu, but they want it so badly that they would be willing to pay as much as $11 for a western omelet. The waiter says, "We don't have that on the menu." "I really want this," the customer says, "Please get me the manager."

And the manager comes out and says, "Well, you know, we do have the ingredients in the back to make a western omelet. Maybe we would be willing to sell one to you." And the manager is thinking to himself, "I bet I could make that omelet for, say, $3." So, they begin to negotiate. They have to negotiate because there is no price printed on the menu, as this is something off the menu.

And let's say that they negotiate a price of $5. Would they both agree to trade for $5? Well, of course they would! And what kind of benefit would each of them get? Well, the consumer was willing to pay $11 for this omelet, but they only had to pay $5. So, they have a net benefit of $6. Notice this is the difference between the demand curve at this quantity of one and the price that they actually pay of $5; $6 of net benefit to the consumer.

The producer is also made better off. By how much? $2. Where did the $2 come from? The $5 that they were able to sell the omelet for, minus the $3 it cost them to produce it.

So, the net benefit to them, as a seller, is $2. That's why, when the transaction is over, both parties say, "thank you!"