Consumer Theory 3

Consumer Theory 3 - Economics 21 Intermediate...

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Economics 21 Intermediate Microeconomics Topic 2: Consumer Theory (iii)
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I. Comparative Statics We now consider how the consumer responds to changes in his market environment That is, to changes in: (i) Endowment income; (ii) Prices. N.B, Comparative Statics / Dynamics
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I. Comparative Statics Changes in Income An increase in endowment income causes a parallel shift out of the budget constraint A decrease in endowment income causes a parallel shift in of the budget constraint
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y 0 x Figure 1: Increase in Income m p x m p y
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y 0 x Figure 1: Increase in Income m > m m p x μ π ξ m p y ψ
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y 0 x Figure 2: Increase in Income m > m A C B D E 0 I 0 x Normal y Normal I 1 E 1 μ π ψ ξ m p y m p x
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y 0 x Figure 2: Increase in Income m > m A C B D E 0 I 0 x Inferior y Normal I 1 E 1 μ π ψ ξ m p y m p x
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y 0 x Figure 2: Increase in Income m > m A C B D E 0 I 1 x Normal y Inferior E 1 μ π ψ ξ m p y m p x
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y 0 x Figure 2: Increase in Income m > m A C B D E 0 I 0 x Inferior y Normal x Normal y Normal x Normal y Inferior μ π ψ ξ m p y m p x
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I. Comparative Statics Changes in Prices An increase in price causes a pivot inwards of the budget constraint An decrease price causes a pivot outwards of the budget constraint.
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y 0 x Figure 3: Fall in Price m p x m π ξ m p y < π
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Price changes affects the optimal choice bundle in two distinct ways: First, there is a change in relative prices as represented by a change in the slope of the budget constraint. Second, there is a change in purchasing power (i.e. real income ). The same level of money income is now worth more to the consumer in terms of its ability to purchase both goods. II. Income & Substitution Effects
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y 0 x Figure 3: Fall in Price m p x m p y
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y 0 x Figure 3: Fall in Price m p x m π ξ m p y < π
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y 0 x Figure 4: Effects of Fall in Price m p x m π ξ m p y Fall in price of good x reduces slope of budget constraint ( ERS ) - i.e. fall in the
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This note was uploaded on 07/16/2010 for the course ECON 21 taught by Professor Johng.sessions during the Summer '09 term at Dartmouth.

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Consumer Theory 3 - Economics 21 Intermediate...

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