What refers to the amount earned by the firm from the sale of given quantity of a commodity in the market at various prices?

What Is Market Price?

The market price is the current price at which an asset or service can be bought or sold. The market price of an asset or service is determined by the forces of supply and demand. The price at which quantity supplied equals quantity demanded is the market price.

The market price is used to calculate consumer and economic surplus. Consumer surplus refers to the difference between the highest price a consumer is willing to pay for a good and the actual price they do pay for the good, or the market price. Economic surplus refers to two related quantities: consumer surplus and producer surplus. Producer surplus may also be referred to as profit: it is the amount that producers benefit by selling at the market price (provided that the market price is higher than the least that they would be willing to sell for). Economic surplus is the sum total of consumer surplus and producer surplus.

Key Takeaways

• The market price is the current price at which a good or service can be purchased or sold.
• The market price of an asset or service is determined by the forces of supply and demand; the price at which quantity supplied equals quantity demanded is the market price.
• In financial markets, the market price can change quickly as people change their bid or offer prices, or as sellers hit the bid or buyers hit the offer.

Understanding Market Price

Understanding Market Price

Shocks to either the supply or the demand for a good or service can cause the market price for a good or service to change. A supply shock is an unexpected event that suddenly changes the supply of a good or service. A demand shock is a sudden event that increases or decreases the demand for a good or service. Some examples of supply shock are interest rate cuts, tax cuts, government stimulus, terrorist attacks, natural disasters, and stock market crashes. Some examples of demand shock include a steep rise in oil and gas prices or other commodities, political turmoil, natural disasters, and breakthroughs in production technology.

In regards to securities trading, the market price is the most recent price at which a security was traded. The market price is the result of the interaction of traders, investors, and dealers in the stock market. In order for a trade to occur, there must be a buyer and a seller that meet at the same price. Bids are represented by buyers, and offers are represented by sellers. The bid is the higher price someone is advertising they will buy at, while the offer is the lowest price someone is advertising they will sell at. For a stock, this may be $50.51 and $50.52.

If the buyers no longer think that is a good price, they may drop their bid to $50.25. The sellers may agree or they may not. Someone may drop their offer to a lower price, or it may stay where it is. A trade only occurs if a seller interacts with the bid price, or a buyer interacts with the offer price. Bids and offers are constantly changing as the buyers and sellers change their minds about which price to buy or sell at. Also, as sellers sell to the bids, the price will drop, or as buyers buy from the offer, the price will rise.

The market price in the bond market is the last reported price excluding accrued interest; this is called the clean price. 

Example of Market Price

For example, assume that Bank of America Corp (BAC) has a $30 bid and a $30.01 offer. There are eight traders wanting to buy BAC stock; at this given time, this represents the demand for BAC stock. Five traders bid for 100 shares each at $30, three traders bid at $29.99, and one trader bids at $29.98. These orders are listed on the bid.

There are also eight traders wanting to sell BAC stock; at this given time, this represents the supply of BAC stock. Five traders sell 100 shares each at $30.01, three traders sell at $30.02, and one trader sells at $30.03. These orders are listed on offer.

Say a new trader comes in and wants to buy 800 shares at the market price. The market price, in this case, is all the prices and shares it will take to fill the order. This trader has to buy at the offer: 500 shares at $30.01, and 300 at $30.02. Now the spread widens, and the price is $30 by $30.03 because all the share offered at $30.01 and $30.02 have been bought. Since $30.02 was the last traded price, this is the market price.

Other traders may take action to close the spread. Since there are more buyers, the spread is closed by the bid adjusting upward. The result is a new price of $30.02 by $30.03, for example. This interaction is continually taking place in both directions, and is constantly adjusting the price.

What Is a Producer Surplus?

Producer surplus is the difference between how much a person would be willing to accept for a given quantity of a good versus how much they can receive by selling the good at the market price. The difference or surplus amount is the benefit the producer receives for selling the good in the market.

A producer surplus is generated by market prices in excess of the lowest price producers would otherwise be willing to accept for their goods. This may relate to Walras' law.

Key Takeaways

• Producer surplus is the total amount that a producer benefits from producing and selling a quantity of a good at the market price.
• The total revenue that a producer receives from selling their goods minus the marginal cost of production equals the producer surplus.
• Producer surplus plus consumer surplus represents the total economic benefit to everyone in the market from participating in production and trade of the good.

Producer Surplus

Understanding Producer Surplus

A producer surplus is shown graphically below as the area above the producer's supply curve that it receives at the price point (P(i)), forming a triangular area on the graph. The producer’s sales revenue from selling Q(i) units of the good is represented as the area of the rectangle formed by the axes and the red lines, and is equal to the product of Q(i) times the price of each unit, P(i).

Because the supply curve represents the marginal cost of producing each unit of the good, the producer’s total cost of producing Q(i) units of the good is the sum of the marginal cost of each unit from 0 to Q(i) and is represented by the area of the triangle under the supply curve from 0 to Q(i).

Subtracting the producer’s total cost (the triangle under the supply curve) from his total revenue (the rectangle) shows the producer’s total benefit (or producer surplus) as the area of the triangle between P(i) and the supply curve.

The Formula for Producer Surplus Is:

Total revenue - marginal cost = producer surplus

The size of the producer surplus and its triangular depiction on the graph increases as the market price for the good increases, and decreases as the market price for the good decreases.

Special Considerations

Producers would not sell products if they could not get at least the marginal cost to produce those products. The supply curve as depicted in the graph above represents the marginal cost curve for the producer.

From an economics standpoint, marginal cost includes opportunity cost. In essence, an opportunity cost is a cost of not doing something different, such as producing a separate item. The producer surplus is the difference between the price received for a product and the marginal cost to produce it.

Because marginal cost is low for the first units of the good produced, the producer gains the most from producing these units to sell at the market price. Each additional unit costs more to produce because more and more resources must be withdrawn from alternative uses, so the marginal cost increases and the net producer surplus for each additional unit is lower and lower.

Producer Surplus vs. Profit

Profit is a closely-related concept to producer surplus; however, they differ slightly. Economic profit takes revenues and subtracts both fixed and variable costs. Producer surplus, on the other hand, only takes off variable (marginal) costs.

Consumer Surplus and Producer Surplus

A producer surplus combined with a consumer surplus equals overall economic surplus or the benefit provided by producers and consumers interacting in a free market as opposed to one with price controls or quotas. If a producer could price discriminate correctly, or charge every consumer the maximum price the consumer is willing to pay, then the producer could capture the entire economic surplus. In other words, producer surplus would equal overall economic surplus.

However, the existence of producer surplus does not mean there is an absence of a consumer surplus. The idea behind a free market that sets a price for a good is that both consumers and producers can benefit, with consumer surplus and producer surplus generating greater overall economic welfare. Market prices can change materially due to consumers, producers, a combination of the two, or other outside forces. As a result, profits and producer surplus may change materially due to market prices.

Producer Surplus Example

Say that there are 20 companies that make widgets, each producing them at slightly different costs. ranging from $2.50 to $3.50 per widget. In the market, there is an equilibrium point where the amount of widgets supplied meets demand at $3.00.

The producer surplus would define those producers who can make widgets for less than $3.00 (down to $2.50), while those whose costs are up to $3.50 will experience a loss instead. For the lowest-cost producer, they would enjoy a surplus of $0.50 per widget.

How Do You Measure Producer Surplus?

With supply and demand graphs used by economists, the producer surplus would be equal to the triangular area formed above the supply line over to the market price. It can be calculated as the total revenue less the marginal cost of production.

What Is Producer Surplus Simply Put?

Put simply, the producer surplus is the difference between the price that companies are willing to sell products for and the prices that they actually get for them. 

What Is Total Surplus?

Which refers to the amount received by a firm from the sale of a given quantity of a commodity in the market?

Is the total volume of the commodity which can be brought into the market for sale at a short notice?

Is the total quantity of commodity?

What is a market price in economics?