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# Chapter+2 - Chapter 2 Theoretical Tools of Public Finance...

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Chapter 2 Theoretical Tools of Public Finance

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Theoretical Tools of Public Finance 2.4 Welfare Implications of Benefit Reductions: The TANF Example Continued 2.3 Equilibrium and Social Welfare 2.2 Putting the Tools to Work: TANF and Labor Supply Among Single Mothers 2.1 Constrained Utility Maximization 2.5 Conclusion theoretical tools: The set of tools designed to understand the mechanics behind economic decision making. empirical tools : The set of tools designed to analyze data and answer questions raised by theoretical analysis.
Constrained Utility Maximization utility function: A mathematical function representing an individual’s set of preferences, which translates her well- being from different consumption bundles into units that can be compared in order to determine choice. constrained utility maximization: The process of maximizing the well-being (utility) of an individual, subject to her resources (budget constraint). Models: Mathematical or graphical representations of reality.

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Constrained Utility Maximization Preferences and Indifference Curves
Constrained Utility Maximization Preferences and Indifference Curves indifference curve: A graphical representation of all bundles of goods that make an individual equally well off. Because these bundles have equal utility, an individual is indifferent as to which bundle he consumes. Indifference curves have two essential properties, both of which follow naturally from the more-is-better assumption: 1. Consumers prefer higher indifference curves. 2. Indifference curves are always downward sloping.

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Constrained Utility Maximization Preferences and Indifference Curves
Constrained Utility Maximization Utility Mapping of Preferences Underlying the derivation of indifference curves is the notion that each individual has a well-defined utility function . A utility function is some mathematical representation U = f ( X 1 , X 2 , X 3 , …), where X 1 , X 2 , X 3 , and so on are the goods consumed by the individual and f is some mathematical function that describes how the consumption of those goods translates to utility.

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Constrained Utility Maximization Utility Mapping of Preferences Marginal Utility marginal utility: The additional increment to utility obtained by consuming an additional unit of a good.
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