Different kinds of surplus play a huge role in production and sales. One type of surplus can keep a company afloat and thriving, while another can cause a drop in sales and increased financial loss. Companies must take each type of surplus into account when producing and pricing their items in order to maximize consumer purchases and profit and minimize loss.
Supply and Demand
The concept of supply and demand is basic and nearly universal in the field of economics. Both of these factors determine the market price of a product. The law of supply and demand states that the less supply there is for a product, the less demand. The opposite statement is also true. Therefore, in terms of the supply and demand curve, a simple surplus of goods results in greater supply, which leads to lesser demand for the product. This is usually bad for sales, as it forces companies to lower their prices in order to sell their surplus items; so in terms of simple supply and demand, surplus is undesirable.
The idea of consumer surplus is based on what any given product is worth to a consumer. If a consumer thinks a certain product is worth $20, she is unlikely to pay $25 or even $21 for it. However, if she finds the product on sale for $15 and purchases it, the $5 difference between how much she thought it was worth and how much she paid for it is her consumer surplus. That difference is based on how much enjoyment and satisfaction she got from the product; in this case, her consumer surplus was $5.
Producer surplus is basically profit. If a certain product costs a company $10 to make, and the company sells the product for $10, the company’s producer surplus is zero. That means the company has not made a profit off the product. However, if the product costs $10 to make and the company markets the product at $15, the producer surplus is $5. If the company markets the product at $20, then every sold product generates $10 of profit.
Supply and demand, consumer surplus and producer surplus all play a role in how companies price and market their products. One of the primary goals of any given company is to make a profit off their products. Therefore, companies aim to take in as large of a producer surplus as they can. They do this by increasing the difference between what they paid to produce the product and what they market the product for. However, the amount of money they can market a product at depends on consumer surplus. A consumer won’t pay $25 for an item he thinks is only worth $20.