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Consumer Theory 4

# Consumer Theory 4 - Economics 21 Intermediate...

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Economics 21 Intermediate Microeconomics Topic 2: Consumer Theory (iv)

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I. Demand We now use our model of choice to generate the consumer’s ( Marshallian ) demand functions That is, the optimal amounts of each good as a function of prices and income x 1 = x 1 ( p 1 , p 2 , m ) x 2 = x 2 ( p 1 , p 2 , m )
I. Demand Recall … The demand for Normal goods increases with income ; ∆ x 1 /∆ m > 0 The demand for Inferior goods decreases with income; ∆ x 1 /∆ m < 0 Inferior goods are usually low quality goods

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II. Income Offer & Engel Curves The Income offer curve (or Income expansion path ) connects optimal bundles as we move the budget line out via an increase in income The Engel curve maps out the demand for a good as income changes N. B. Slope of Engel curve is ∆ m /∆ x 1

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II. Some Examples Perfect Substitutes Perfect Complements Cobb-Douglas Homothetic Preferences Quasilinear Preferences
III. Perfect Substitutes u ( x 1 , x 2 ) = ax 1 + bx 2 If a = b p 1 < p 2 then x 1 = m / p 1 => ∆ x 1 /∆ m > 0 Slope of Engel curve … x 1 = m / p 1 => m = p 1 x 1 Thus, m /∆ x 1 = p 1

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III. Perfect Complements

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Consumer Theory 4 - Economics 21 Intermediate...

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