Part 2: Consumer behaviour

Robs slides: Ordinal approach, Indifference Curves, Budget line

What is the ordinal approach

Ranking bundles from first choice to last choice.

Something being second and another thing being fourth doesn’t mean I like the second option twice as much as the fourth one

Key assumptions about preferences

• Complete = can assign a utility value to any and all bundles of goods

• Transitive = Orderings are consistent (f Apples ≻ Bananas and Bananas ≻ Pears, then we must have that Apples ≻ Pears)

• Non-Satiety= More- Is-better

What is a utility curve

A curve showing all combinations (two products) for which a consumers utility is indifferent

Indifference map vs Indifference curve

Different IC’S showing different levels of utility and are related by the same two goods

PPF vs IC in terms of opportunity costs

(PPF for the country, IC for an individual)

• PPF (maximum possible production combinations of two goods an economy can produce, given available resources and technology)

• Objective:how many units of good Y must be sacrificed to produce one more unit of good X.

• IC:

• Subjective: Consumer is willing to give up one good for another, while maintaining the same satisfaction level.

• Increasing utility as you move ____ from the ____

• What does the more-is-better approach tell you

• Away &origin

• The more you consume the happier you get

What are the 3 Main Properties of IC’S

1. are downward-sloping

2. are convex with respect to the origin

3. curves do not cross

Why are ICs ____:

• Downward sloping

• Convex to the origin ( curve getting flatter horizontally)

• Not cross

(Good A= Y axis, Good B=X axis

• Represents trade-offs, more of good A, willing to have less of Good B to maintain the same utility; therefore, goods are inversely related

• Value of Good A is low because we have a lot of it, meaning I’m willing to give up a lot for one more unit of Good B at a faster rate( MRS), but as my supply of Good A becomes less, my willingness to give them up for Good B slows down

• Each curve shows the same level of utility; if they cross different points on the curve will also show “the same level of utility” even though the consumption at the points differ and the utility. Violating the More-is-better rule( slide 16)

What is MRS:

-In full

-Explain

-Formula (negative slope/positive?)

-When will ICs be steep/shallow (Good A,Y-axis, Good B,X-axis)

• Marginal rate of substitution (between two goods)

• Rate at which consumer is willing to substitute between two goods

• Negative (utility is constant)

• Steep: Like Good B a lot, willing to give up gang of good A

• Shallow: Like Good A a lot, not willing to give up a lot of B

The budget line formula and what assumption do we make

• We assume that consumers

  spend all their money, hence

  the equality in the constraint.

The other Budget line formula that shows the slope

Bundles____ the budget line show:

• Above

• On

• Below

• Unaffordable

• Affordable and use all consumers income

• Affordable but do not use all consumers income

What is MRT:

-In full

-Explain

-Formula

-What does a MRT of 2 tell you for example

• Marginal rate of Transformation

• How much the consumer MUST sacrifice one good to buy the other (Opportunity cost )

• Formula: Slope of budget line -Px/Py

• Good B costs more than Good A, I MUST give up 2 units of Good A JUST so i can affor

Main difference between MRS and MRT

• MRS- Willing to give up for Utility

• MRT-Must give up because of Price( budget)

What causes a SHIFT in Budget Constraint :

• Right

• Left

• And what stays constant

• A change in INCOME

• INCREASE

• DECREASE

• Price of goods stay constant

What causes a PIVOT in Budget Constraint :

• Right

• Left

• And what stays constant

• Change in PRICE OF GOODS

• INCOME stays constant

What causes a PIVOT in Budget Constraint :

• Right

• Left

• And what stays constant

• Change in PRICE OF GOODS

• INCOME stays constan