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Difficulty: MediumConcept and Calculation of Consumer Surplus

A household's maximum willingness to pay for successive kegs of palm oil is given in the table below:

Unit (Keg)Maximum Willingness to Pay (₦)
1st500
2nd450
3rd400
4th350
5th300

If the market price per keg is ₦350, what is the total consumer surplus derived by the household?

  1. A
    ₦150
  2. ₦300Answer
  3. C
    ₦1,350
  4. D
    ₦1,700

Answer

The total consumer surplus derived by the household is ₦300.
The correct answer is ₦300. At a market price of ₦350, the household consumes 4 kegs of palm oil because willingness to pay equals price at the 4th unit. Total willingness to pay for 4 kegs is ₦500 + ₦450 + ₦400 + ₦350 = ₦1,700. The actual expenditure is 4 × ₦350 = ₦1,400. Thus, consumer surplus = ₦1,700 - ₦1,400 = ₦300.

Step-by-Step Solution

1
Determine the quantity of palm oil kegs the household will purchase at the market price of ₦350.
The consumer will buy up to the 4th keg because for the 4th keg, willingness to pay (���350) equals market price (₦350). The 5th keg will not be purchased because willingness to pay (₦300) is less than market price.
A rational consumer purchases additional units as long as willingness to pay is greater than or equal to market price.
2
Calculate the total willingness to pay (total monetary utility) for the 4 purchased kegs.
Total Willingness to Pay = ₦500 + ₦450 + ₦400 + ₦350 = ₦1,700.
Total willingness to pay is the sum of maximum prices the consumer is prepared to pay for each consumed unit.
3
Calculate the actual total expenditure incurred by buying 4 kegs at ₦350 each.
Total Expenditure = 4 units × ₦350 = ₦1,400.
Actual expenditure is calculated as total quantity purchased multiplied by prevailing market price.
4
Subtract actual total expenditure from total willingness to pay to obtain consumer surplus.
Consumer Surplus = ₦1,700 - ₦1,400 = ₦300.
Consumer surplus measures the net economic benefit or gain derived by consumers when paying less than their maximum willingness to pay.

Key Concept

Consumer Surplus from Marginal Utility / Willingness to Pay Schedule
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Topics

Concept and Calculation of Consumer Surplus

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