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Let us assume that the current price $P$ is lower than the 'equilibrium price' $P^\star$ so that $Q$ is lower than $Q^\star$. If we move from this combination towards the equilibrium one, it may be the case that the producer surplus decreases. I understand that the total surplus (consumers+producers) increases, but it is not clear to me why producers should be willing to reduce their surplus. So it looks like to me that there is not pareto improvement in moving from $(P,Q)$ to ($P^\star$,$Q^\star$), in that consumers are better off but producers may be worse off. What is wrong with my reasoning? Could you help me with this, please?

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  • $\begingroup$ As pointed out in Kenny LJ's answer, you are using the wrong definition of Pareto efficiency (which requires there to be no universal improvment over $(P^*,Q^*)$, not that there is no other such $(P,Q)$. But, putting that aside, your example also isn't very well thought-through. Indeed, it is perfectly possible for there the be a Pareto improvement in moving from $(P,Q)$ to $(P^*,Q^*)$. For example, if $P=0$ and $Q=0$ then both producer surplus and consumer surplus are zero and almost anything would be a Pareto improvement! $\endgroup$ – Ubiquitous Sep 26 at 13:02
  • $\begingroup$ That is why I wrote: 'it MAY be the case' $\endgroup$ – Alchemy Sep 26 at 13:40
  • $\begingroup$ According to the definition you gave it may be the case that $(P,Q)$ is still Pareto efficient $\endgroup$ – Alchemy Sep 26 at 13:43
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A situation can be Pareto efficient without also being a Pareto improvement over every other situation.

So, here for example, equilibrium is Pareto efficient, but -- as you have noted -- is not a Pareto improvement over every other situation.


Example. Say I have 100 apples to divide between A and B. The allocation (60, 40) is Pareto efficient, but it is not a Pareto improvement over the allocation (59, 41).

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  • $\begingroup$ So, if we refer to my example, (P,Q) is still a pareto efficient situation. Right? $\endgroup$ – Alchemy Sep 26 at 12:21
  • $\begingroup$ Right. There could be many Pareto efficient allocations. $\endgroup$ – Art Sep 26 at 15:47
  • $\begingroup$ @Alchemy: Probably (I can't be sure without more information). In the real world, most situations cannot be Pareto-improved upon and are therefore Pareto efficient. $\endgroup$ – Kenny LJ Sep 27 at 3:22

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