Consumer’s Surplus

Consumer’s surplus, the concept was introduced by A. J. Dupit, a French engineer in 1844. But he could not have developed it. The credit goes to Alfred Marshall for developing this concept. Marshall first named this concept as ‘consumer’s rent’ in his book ‘Pure Theory of Domestic Value’ and later renamed consumer’s surplus in the book ‘Principles of Economics’. Prof. K. E. Boulding has named it ‘Buyer’s Surplus’.

In our daily expenditure, we find generally that the satisfaction derived from a commodity is higher than the price we pay for the commodity. So, we are prepared to pay more than we actually have to pay. In other words, consumer’s surplus is the difference between what we are prepared to pay and what we actually pay. As for example, we are prepared to pay $12 per kilo for apple, but the actual price in the market is $10 per kilo. Hence, consumer’s surplus is 12 – 10 = $2. Another way to explain the concept is that consumer’s surplus is the total utility minus total amount spent.

According to Marshall – “The excess of the price which the consumer would be willing to pay rather than go without the thing over that which he actually does pay is the economic measure of his surplus satisfaction. It may be called consumer’s surplus.”

In the words of Watson and Getz – “The difference between the amount a consumer would pay for the quantity of a commodity bought and the amount the consumer does pay is called consumer’s surplus.”

Consumer’s Surplus

Units of orange
P ($)
MU
CS
1
2
3
4
5
6
5
5
5
5
5
5
10
9
8
7
6
5
5
4
3
2
1
0
PU = 6
TE = 30
TU = 45
15

Suppose that the price per unit of orange is $5. The consumer purchases six units of orange. He purchases up to the point where marginal utility is just equal to price. Now comparing total utility with the total cost (expenditure) we can get consumer’s surplus as:

Total utility = sum of marginal utilities
= $10 + 9 + 8 + 7 + 6 + 5 = $45

Total cost = sum of cost of each unit
= $5 x 6 = $30

Consumer’s surplus = Total utility – total cost
= $45 - $30 = $15

The total utility derived by the consumer from 6 units of orange is $45, but the consumer has paid only $30. So, he gets the consumer’s surplus of $15. Hence, the consumer’s surplus is the difference between what the consumer would be willing to pay ($45) and what he actually has to pay ($30). The concept of consumer’s surplus can be illustrated by the help of a figure below.
Consumer's Surplus
In the figure, the addition of the six rectangles reflecting the marginal utilities gives total utility. The area of the large rectangle OPE 6 (p x q) represent the total cost. The striped area (between price line and demand schedule) that remains after subtracting total cost from total utility is the consumer’s surplus.

The first unit costs $5 but MU or the price willing to pay is worth $10. So, CS = $5. The second unit also costs $5, but MU is worth $9. So, CS = $4 and so on. Adding excess of utility over cost on each unit purchased, we get $15. The area between price line and demand schedule shows this. There is no surplus on the last unit purchased. Because, the consumer purchases up to the point where marginal utility of the last unit is equal to price.

This concept can be presented in simple way by the help of a smooth demand curve as shown in the figure below. Here we assume that the commodity is divisible into small units so that smooth demand curve can be drawn.
Consumer's Surplus
The consumer purchases 6 units at a price of $5 per unit. Consumer’s surplus is the triangular area PTE between the demand curve and the price line. It is equal to the areas of rectangle above the price line in figure. But due to the use of smaller and smaller units, we get smooth line rather than discrete steps. In figure, the total utility from OQ units is OTEQ and the total cost is OPEQ. The difference PTE is consumer’s surplus.

Criticisms of Consumer’s Surplus

The concept of consumer’s surplus has been criticized by many economists like Ulisse Gobbi, Bevenport, Cannan, Nicholson and J. K. Hicks. The criticisms made by them are as follows:
  1. Imaginary concept: The concept of consumer’s surplus has been criticized as an imaginary concept. Because, we have to imagine how much a person is prepared to pay and we will have to deduct the amount he actually pays to get consumer’s surplus. Beside, a man may be prepared to pay different amounts. So, it is an imaginary concept.
  2. Utility is immeasurable quantitatively: We should measure utility obtained by a consumer quantitatively to ascertain that the consumer is willing to pay given sum of money. Utility is a psychological phenomenon. It depends on a person’s mental situation. We cannot there, ascertain the quantity of utility. Some commodity may yield different utility to different persons. So, utility cannot be measured quantitatively.
  3. Bare necessaries: Utility is immeasurable in case of bare necessaries. A man dying of hunger may be prepared to pay any sum of money for a commodity. In such a case, the consumer’s surplus is very high.
  4. Constant marginal utility of money: This concept is based on the assumption that marginal utility of money remains constant. But unlike this assumption, the amount of money declines after expenditure. As a result of this, marginal utility of money to a consumer increases.
  5. Potential price less than actual price: There is a possibility that potential price may be less than the actual price of the commodity. In such a case, there is no consumer’s surplus but loss.

Importance of Consumer’s Surplus

The concept of consumer’s surplus is not imaginary. We feel the operation of this concept in our daily life. It has an important place in economic theory. The importance of this concept can be explained as follows:
  1. Public Finance: This concept is useful in imposing taxes and fixing tax rates. The government should impose taxes on those commodities in which people are prepared to pay more than they actually pay or where consumer’s surplus is large. Such taxes bring more revenue to the government. Because, people do not stop buying commodities because of taxes. Likewise, the imposition of new taxes will not cause any suffering to the people.
  2. Price determination: This concept is useful in price determination of goods and services. It is, therefore, useful to the monopolist and businessmen. The people are prepared to pay more for a commodity having large consumer’s surplus. The sellers, particularly a monopolist can raise price without any fall in sales.
  3. Measurement of the benefit from international trade: This concept also measures the benefit from international trade. We import the commodities for which are paying more in our country. We import the goods since they are cheapest and enjoy consumer’s surplus. Larger the surplus, larger the benefit we get from international trade.
  4. Compare economic condition of people: The concept of consumer’s surplus makes it easier to compare the economic condition of the people of two different countries. The availability of more goods at cheaper rate means that people are enjoying more consumer’s surplus. Hence the people of that country are better off. Likewise, the concept help to compare the advantage of living in two different places. A place with availability of greater amenities at cheaper rates will be better to live in. The consumers there may enjoy larger surplus satisfaction.
  5. Implement law of maximum satisfaction: This concept also helps to implement the law of maximum satisfaction. It guides people to spend the limited money to those goods, which give more consumer’s surplus. This maximizes satisfaction, which is the main aim of the consumer.
  6. Distinction between value-in-use and value-in exchange: This concept tells clearly the distinction between value in use and value in exchange. The commodities like salt, matchbox have great value in use (utility) but have small value in exchange (price). Being necessary and cheaper things, they give large consumer’s surplus.

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