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Consumer surplus is derived whenever the price a consumer actually pays is less than they are
prepared to pay. A demand curve indicates what price consumers are prepared to pay for a
hypothetical quantity of a good, based on their expectation of private benefit.
For example, at price P, the total private benefit in terms of utility derived by consumers from
consuming quantity, Q is shown as the area ABQC in the diagram.
The amount consumers actually spend is determined by the market price they pay, P, and the
quantity they buy, Q - namely, P x Q, or area PBQC. This means that there is a net gain to the
consumer, because area ABQC is greater that area PBQC. This net gain is called consumer
surplus, which is the total benefit, area ABQC, less the amount spent, area PBQC. Hence
ABQC - PBQC = area ABP.
Producer surplus
Producer surplus is the additional private benefit to producers, in terms of profit, gained when
the price they receive in the market is more than the minimum they would be prepared to supply
for. In other words they received a reward that more than covers their costs of production.
The producer surplus derived by all firms in the market is the area from the supply curve to the
price line, EPB.
Economic welfare
Economic welfare is the total benefit available to society from an economic transaction or
situation.
Economic welfare is also called community surplus. Welfare is represented by the area ABE in
the diagram below, which is made up of the area for consumer surplus, ABP plus the area for
producer surplus, PBE.
In market analysis economic welfare at equilibrium can be calculated by adding consumer and
producer surplus.
Welfare analysis considers whether economic decisions by individuals, organisations, and the
government increase or decrease economic welfare.