Chapter 6 - Consumer Choice

The possible combinations of goods that are affordable given a consumer's income or wealth.

What does the budget constraint represent?

The principle that each additional unit of a good consumed provides less utility than the previous unit.

What is diminishing marginal utility?

Consumers should allocate their budget to equalize the marginal utility per dollar spent across all goods.

What is the rule for maximizing utility?

If the new optimal bundle is at point B, both goods are normal

if at A, movie tickets are inferior;

if at C, restaurant meals are inferior.

What happens to consumer choice when the budget increases?

Substitution Effect and Income Effect.

What are the two effects when the price of a good changes?

When the price of a good increases, consumers substitute away from that good to another good.

What is the substitution effect?

When the price of a good increases, consumers feel poorer due to reduced buying power, leading to less consumption of that good if it is normal.

What is the income effect?

Consumers will consume less of the inferior good as their income increases.

What happens to the consumption of a good if it is considered inferior when the budget increases?

It represents the most preferred combination of goods that maximizes utility given the budget constraint.

What is the significance of the optimal bundle in consumer choice?

How does an increase in income affect the budget constraint?

It shifts the budget constraint outward, allowing for more combinations of goods to be affordable.

A line on a graph where the axes represent quantities of two goods.

What is the graphical representation of the budget constraint?

Marginal Utility (MU) Formula

change in utility

change in quantity

Marginal Utility per Dollar

MU

P

Maximizing Utility

Mu₁=Mu₂

P₁ = P₂

intrinsic property of anything that leads to choosing it over an alternative

• the subjective benefit or satisfaction a person expects from a course of action

Utility