Demand And Consumer Behavior

Chapter 5

Topics:

Utility Types of utility Law of Diminishing Marginal utility Individual and market demand curve Equi marginal Principal Consumer welfare or Surplus

Numerical Example

Consumed Q T U Mu

0 0  

1 4 4

2 7 3

3 9 2

4 10 1

5 10 0

Total Utility

0

2

4

6

8

10

12

0 1 2 3 4 5 6

Quantity

TU

Consumed Q T U

0 0

1 4

2 7

3 9

4 10

5 10

Marginal utility

Marginal Utility

00.5

11.5

22.5

33.5

44.5

0 1 2 3 4 5 6

Quantity

MU

Mu

 

4

3

2

1

0

Equi marginal Principal : Equal Marginal Utilities per dollar for every good:

MU1 = MU2

P1 P2

Quantity 1Quantity 2 Quantity

Pric

e

Pric

e

D1 D2

Q=Q1+Q2

Market demand curve

Pric

e

From Individual to market demand curve

1 2 3

5 55

Consumer welfare or Surplus

Consumer welfare from a good is the benefit a consumer gets from consuming that good minus what the consumer paid to buy he good.

Consumer surplus: the monetary difference between what a consumer is willing to pay for the quantity of good actually costs is called consumer surplus

Quantity

prices

1 2 3 4

1

2

3

4

P=2

Quantity

pric

es

Expenses

Consumer Surplus

Marginal Willingness to pay for last unit

Consumer Surplus through Demand curve

Conti….

Budget line Change in Budget Line Budget equation

Budget Line

Food Clothing

4 0

3 1.5

2 3

1 4.5

0 6

Budget Line

0

1

2

3

4

5

6

7

0 1 2 3 4 5

Food

Clo

thin

g

Pf = Rs40

Pc =Rs30

Slope = Pf/ Pc

Budget line Equation

Y = Pf x Qf +Pc x QcInterceptQf =0Y = Pc x QcY / Pc = QcSlope Pc x Qc = Y -Pf x Qf Qc = Y -Pf x Qf PcQc = Y -Pf x Qf Pc Pc

Change in Budget Line (Change in income)

Clo

thin

g

Food

B2

B

Y / Pf

Y / Pc

Y2 / Pc

Y2 / Pf

Change in Budget Line (Change in Price)

Clo

thin

g

B2

B

Y / Pf Y / Pf2

Y / PcPrice decrease

Conti….

Indifference Curve Properties of IC Marginal rate of substitution

Table

Clothing Food

1 2 3 4 5 6

1 10 14 17 20 22 24

2 14 20 24 28 32 35

3 17 24 30 35 39 42

4 20 28 35 40 45 49

5 22 32 39 45 50 55

6 24 35 42 49 55 60

Satisfaction level 24  

Cloth Food

1 6

2 3

3 2

6 1

Indifference Curve 1

Satisfaction level 24  

Cloth Food

1 6

2 3

3 2

6 1

Indifference curve

0

1

2

3

4

5

6

7

0 2 4 6 8

Food

Clo

thin

g

Indifference Curve 2

Clothing Food

1 2 3 4 5 6

1 10 14 17 20 22 24

2 14 20 24 28 32 35

3 17 24 30 35 39 42

4 20 28 35 40 45 49

5 22 32 39 45 50 55

6 24 35 42 49 55 60

Satisfaction level 35  

Cloth Food

2 6

3 4

6 2

indifference curve 2

0

1

2

3

4

5

6

7

0 2 4 6 8

Food

Clo

thin

g

Indifference MAP

1, 6

2, 3

3, 2

6, 1

2, 6

3, 4

6, 2

0

1

2

3

4

5

6

7

0 1 2 3 4 5 6 7

Food

Clo

thin

g

Lo

Indifference Map

Indifference Curve Properties

1. The father an indifference curve is from the origin, the greater level of satisfaction

2. Indifference curve do not cross

3. Its slope downward

Marginal rate of substitution (slope)

Indifference curve

0

1

2

3

4

5

6

7

0 2 4 6 8

Food

Clo

thin

g

MRS = ΔC/ ΔF

= 3/1

Perfect substitute & Perfect complement

Orange Juice

App

le J

uice

Right Shoe

Left

Sho

e

Food

Clo

thin

g

Q =1

a. Perfect substitute b. Perfect complement

Typical IC lie between the extreme cases of straight lines and right angle.

Along a curved IC, the ability to substitute one input for another varies.