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Unformatted text preview: The budget constraint and the Feasible set What causes changes in the Budget constraint? Consumer Preferences The utility function Lagrange Multipliers Indifference Curves Ch 3: Rational consumer choice 2 GOAL ◦ We want to solve for the optimal bundle (a combination of goods) that a “rational consumer” will purchase. METHODs ◦ Both Graphical and Mathematical Retained Assumptions 1. Existence of a Feasible Set or Budget Constraint. 2 . Existence of a Consumer‟s Preference described (mathematically) by his/her Utility Function. Ch 3: Rational consumer choice 3 Budget constraint: ◦ It is the set of all bundles that can be purchased with a given level of income and prices, when all income is spent Feasible set: ◦ The bundles on or within the budget triangle are referred to as the feasible set. In other words, the bundles for which the required expenditure at given prices is less or equal to the income available Ch 3: Rational consumer choice 4 Ch 3: Rational consumer choice 5 The budget constraint must satisfy the following equation: Or equivalently: Where is referred to as the marginal cost (in terms of good Y) of an additional unit of good X along the budget constraint and is the intercept. Ch 3: Rational consumer choice 6 M F P S P F s S P P P M F F S F F S P P F P M Two cases can happen: 1. Parallel shift inward or outward 2. Or, the slope can change Case 1: Income Changes ( Parallel Shift) ◦ The effect of a change in income is much like the effect of a proportional change in all prices. For example, cutting income by half has the same effect as doubling the prices of the goods....
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 Spring '11
 Okhan
 Microeconomics, Utility, rational consumer choice

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