Budget Constraints and Consumer Behavior

These flashcards cover essential concepts related to budget constraints, consumer behavior, and the effects of income and price changes.

What is the budget constraint?

The set of all bundles the consumer can afford given prices and income: p1x1 + p2x2 ≤ m.

How do you find and interpret the slope?

Slope = −p1/p2 = opportunity cost: how many units of good 2 must be given up for one more unit of good 1.

What are the intercepts and how to label them?

x1-intercept = m/p1 (all income on good 1). x2-intercept = m/p2 (all income on good 2). Always label both axes.

How does income change the budget line?

Increase in m → parallel outward shift. Decrease → parallel inward shift.

How does a price change move the budget line?

p1 ↑: pivot inward around x2-intercept. p1 ↓: pivot outward around x2-intercept.

Why use a composite good?

To simplify multi-good problems. Measure 'other goods' in dollars.

When does the budget line have kinks?

When price per unit changes after some quantity (bulk discounts, taxes, quotas).

How do subsidies or vouchers modify the budget set?

Voucher: free units up to a limit → horizontal segment. Subsidy: slope flattens beyond subsidy limit.

How do taxes change the budget?

Per-unit tax t on good 1 → slope steeper: −(p1+t)/p2. Lump-sum tax T → intercepts shrink.

Step-by-step: drawing any new budget line.

1) Write p1x1+p2x2=m. 2) Compute intercepts. 3) Identify if pivot or shift. 4) Plot and connect.

Opportunity cost of one more unit of good 1?

p1/p2: units of good 2 forgone. The slope equals relative price.

Real vs nominal income?

Nominal = money amount m. Real = purchasing power.

Quick formulas summary.

Budget: p1x1+p2x2=m. Slope: −p1/p2. Intercepts: m/p1, m/p2.

Common errors in budget problems.

Forgetting the ≤ region, confusing shift vs rotation, wrong slope sign, incorrect intercept after tax/subsidy.