Explain the concepts of consumer surplus and producer surplus.

Examine the view that the best allocation of resources, from society’s point of view, occurs where the marginal private benefit equals the marginal private cost.

Marks should be allocated according to the paper 1 markbands for May 2013 forward, part A.

Answers may include:

• definition of consumer surplus, producer surplus
• diagram to show consumer surplus and producer surplus
• explanation that consumer surplus is above equilibrium price and below the demand curve, and that producer surplus is below equilibrium price and above the supply curve
• examples of consumer surplus and producer surplus.

Marks should be allocated according to the paper 1 markbands for May 2013 forward, part B.

Answers may include:

• definition of marginal private benefit (MPB), marginal private cost (MPC), allocation of resources
• diagram to show marginal private benefit in equilibrium with marginal private cost and community surplus being maximized
• explanation of why MPB = MPC (demand = supply) represents an optimal allocation of resources
• examples of marginal private benefits and costs or externalities
• synthesis and evaluation (examine).

Examination may include: the significance of external benefits and external costs for the socially optimum resource allocation (MSB = MSC), under-provision and over-provision at the free market price, other sources of market failure such as demerit goods, asymmetric information.

NB For a response that just evaluates the view without explaining it, a maximum of Level 2 should be awarded.

This question was not answered well by most candidates who attempted it. Many confused consumer surplus with excess demand and producer surplus with excess supply. It was difficult for many candidates to give an accurate definition or explanation of the terms. Those that did understand the concepts provided precise definitions and were able to diagram the concepts well. However, candidates often struggled to give examples to illustrate the concepts.

Many candidates struggled to accurately define MPB and MPC, with the word “additional” often being absent. Few were able to analyse why this equation might represent optimal allocation and it was not uncommon for candidates to ignore the explanation and proceed straight to the evaluation by asserting that MSC=MSB is optimal. The diagrams to show externalities were often very good, with some good examples of the existence of externalities being given.