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# siides_05_H.pdf - Roadmap CONSUMER BEHAVIOR(III •...

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CONSUMER BEHAVIOR (III) 1 Roadmap Preferences and rationality axioms Representation of rational preferences: utility Affordable bundles: budget set Consumer choice: utility maximization and individual demand (today) Market demand 2 Outline (today) Utility maximization (graphical approach) Utility maximization (algebraic approach) Revealed preference 3 Outline (today) Utility maximization (graphical approach) Utility maximization (algebraic approach) Revealed preference 4

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Consumer behavior Consumer theory is based on the model of util ity max i miza tion It assumes that consumers choose the affordable bundle that yields the highest utility Inputs into consumer choice: income level I ; prices p x , p y Model: predict that consumer maximizes U ( x , y ) subject to x p x + y p y I 5 Utility maximization A is affordable but B is better and also affordable C is better than B but not affordable U 3 > U 2 > U 1 U 1 U 2 U 3 A B C x y 6 Utility maximization At point B (optimal bundle), slope of budget constraint is equal to slope of indifference curve B x y 7 Outline (today) Utility maximization (graphical approach) Utility maximization (algebraic approach) Revealed preference 8
Utility maximization Consumer maximization problem max x , y U ( x , y ) s.t. x p x + y p y = I Lagrangean function max x , y , λ L ( x , y , λ ) = U ( x , y ) + λ ( I - x p x - y p y ) Note that x p x + y p y = I L ( x , y , λ ) = U ( x , y )

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