Review of Consumer Theory

Review of Consumer Theory - ECO339Y 2011 Review of Consumer...

Info iconThis preview shows pages 1–2. Sign up to view the full content.

View Full Document Right Arrow Icon
ECO339Y 2011 Review of Consumer Choice A consumer’s preferences allow him/her to choose the best or most highly ranked bundle in the budget set. We analyze this problem graphically using the budget constraint and indifference curves. The assumption of non satiation ensures that we only have to consider bundles along the budget constraint. Therefore, the optimal choice ( x 1 O , x 2 O ) satisfies the budget equation p 1 x 1 O + p 2 x 2 O = m . The optimal choice (for an interior solution) is the point along the budget constraint where the indifference curve is tangent to the budget constraint. Therefore, the optimal choice ( x 1 O , x 2 O ) also satisfies MRS = p 1 / p 2 . In cases of boundary solutions either x 1 O = 0 or x 2 O = 0 , and the tangency condition will not hold (although the budget equation condition will). Summary of the consumer problem: Choose x 1 and x 2 to max U ( x 1 , x 2 ) subject to p 1 x 2 + p 2 x 2 = m . The optimal choices ( x 1 O , x 2 O ) satisfy the conditions (for interior solutions 1. p 1 x 1 O + p 2 x 2 O = m 2.
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Image of page 2
This is the end of the preview. Sign up to access the rest of the document.

Page1 / 3

Review of Consumer Theory - ECO339Y 2011 Review of Consumer...

This preview shows document pages 1 - 2. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online