ch21 - Chapter21 TheTheoryofConsumerChoice 21 THETHEORYOF...

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Chapter 21 The Theory of Consumer Choice WHAT’S NEW IN THE THIRD EDITION: There are no substantial changes to this chapter. LEARNING OBJECTIVES: By the end of this chapter, students should understand: how a budget constraint represents the choices a consumer can afford. how indifference curves can be used to represent a consumer’s preferences. how a consumer’s optimal choices are determined. how a consumer responds to changes in income and changes in prices. how to decompose the impact of a price change into an income effect and a substitution effect. how to apply the theory of consumer choice to three questions about household behavior. CONTEXT AND PURPOSE: Chapter 21 is the first of two unrelated chapters that introduce students to advanced topics in  microeconomics.  These two chapters are intended to whet their appetites for further study in economics.  Chapter 21 is devoted to an advanced topic known as the theory of consumer choice. 139 THE THEORY OF  CONSUMER CHOICE 21
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140   Chapter 21/The Theory of Consumer Choice The purpose of Chapter 21 is to develop the theory that describes how consumers make  decisions about what to buy. So far, these decisions have been summarized with the demand curve. The  theory of consumer choice underlies the demand curve. After developing the theory, the theory is applied  to a number of questions about how the economy works.
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Chapter 21/The Theory of Consumer Choice   141 KEY POINTS: 1. A consumer’s budget constraint shows the possible combinations of different goods he can buy given  his income and the prices of the goods.  The slope of the budget constraint equals the relative price  of the goods. 2. The consumer’s indifference curves represent his preferences.  An indifference curve shows the  various bundles of goods that make the consumer equally happy.  Points on higher indifference  curves are preferred to points on lower indifference curves.  The slope of an indifference curve at any  point is the marginal rate of substitution—the rate at which the consumer is willing to trade one good  for the other. 3. The consumer optimizes by choosing the point on his budget constraint that lies on the highest  indifference curve.  At this point, the slope of the indifference curve (the marginal rate of substitution  between the goods) equals the slope of the budget constraint (the relative price of the goods).
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This note was uploaded on 11/16/2009 for the course ECO 1001 taught by Professor Dr.sum during the Fall '08 term at Al Ahliyya Amman University.

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ch21 - Chapter21 TheTheoryofConsumerChoice 21 THETHEORYOF...

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