I’ve taken a couple lower level economics courses now and it seems like a lot of microeconomics relies on the “welfare” of a market being highest when marginal cost equals demand. I don’t feel I’ve ever received a satisfying definition of whose “welfare” is actually being maximized in this situation and why it happens at this exact point. Usually, the basic supply and demand graph has just been shown without an explanation of why that actually occurs. So yeah, it’s been bothering me that the rest of these courses rely on that unsubstantiated assumption so I’d really appreciate it if anyone could what exactly welfare really is and how we know it’s maximized at MC=Demand
In: Economics
The welfare in this case is the welfare of the economy as a whole.
When more demands for goods are fulfilled wellfare goes up and visa versa.
Therefore, economic welfare is maximized when the maximum number of people are supplied with a product while the supplier is not losing money(they are breaking even).
If demand = marginal cost this means that the producers are making exactly $0 profit(or are making the minimum profit they are willing to accept) on the “last” item produced but are still willing to make it because they are not losing money while simultaneously no one willing to buy at a given price is being left unable to buy the product.
The basic idea, which really is just an assumption, is that welfare is the difference between what you’re willing to pay for an item and what you actually pay, plus the difference between what the seller is willing to sell it for an the money they get. So to calculate welfare for a given price you look at all the people who would be willing to sell at or below that price and all the people who would be willing to buy at or above that price.
Once you do that, it’s an algebra problem that the graph can be used to work out.
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