This video goes over the basic concepts of calculating deadweight loss, and goes through a few examples. More information on this topic is available at www.freeeconhel...
Deadweight loss occurs when market equilibrium is not equal to efficient equilibrium. This means that the marginal benefit of society is not equal to the marginal cost of society so there is a disconnect between the true benefits and costs. In this case, total surplus is not as large as it could be which means that there is a loss to society. Since this isn't a necessary loss, economists call it a "deadweight" loss meaning that we could easily remove it but nudging markets toward the efficient outcomes.
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Below is a summary of the transcript for the video:
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This video is going to go over how to calculate deadweight loss and kind of describe. What Deadweight. Loss is so dead weight Loss
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arises from an
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economy not having the maximum
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Surplus possible
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So if we look at a perfectly competitive model we have our supply and demand lines
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The area above price and below demand is our consumer surplus
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the area
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below price and Above supply is our producer surplus
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So there's no Deadweight loss in this economy because surplus is maximized
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however if we were to institute a tax or there's an externality or something like that, then we would have a
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shift in one of these curves
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Where the Optimum should be?
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Here, but instead we're here and so that difference
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Between where we should be and where we are?
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Gives us a Deadweight loss that's occurred in the economy so first What is a deadweight loss?
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What's causing it?
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It's a difference between Marginal cost and marginal benefit
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so you'll notice that at our optimum we have marginal cost equally marginal benefit and
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We're good
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However if MC prime is our true Marginal cost in the economy
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Then we do not have marginal benefit equal to marginal cost because we want to be here instead of here
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So everywhere between these two curves
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We have a difference between marginal cost and marginal benefit and that creates the deadweight loss
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So let's go through an example
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We're going to begin our economy in equilibrium
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and just to make things easy let's say that the initial equilibrium is 5
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5 so then the government decides it decides that they want to institute a tax and let's call it a supply-side, tax
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So that's supply plus t our new equilibrium is going to be at this point and let's just say that
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results in a price instead of 6 a
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quantity of 4 and then here this price that the suppliers receive is 4
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so here the quantity of the tax is 2
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The line shifted up by the amount of to the suppliers
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Take half the tax and the consumers take half the tax
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So again remember with Deadweight loss we want to be here
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at a quantity of 5 and a price of 5
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but we end up it here at a quantity of 4 price after tax of 6
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our sorry price before tax of 6 and price after tax of 4
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So remember this is our marginal benefit
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This is our marginal cost and this is our marginal cost plus the tax
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So what's going on in the economy is at this point right here?
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We're losing out on Potential Surplus
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Because the true marginal benefit of the economy is still greater than the true marginal cost of the economy
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It's just that the tax
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has
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Taken away that potential because now suppliers have to pay a tax instead of realizing their true gains
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So everywhere between the marginal benefit and marginal cost from this new quantity
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To the old quantity is going to be deadweight Loss
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the neat thing about this is just the area of the triangle and if you remember