Notes3 - Chapter 3 The Traditional Approach to Consumer Theory In the previous section we considered consumer behavior from a choice-based point of

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Chapter 3 The Traditional Approach to Consumer Theory In the previous section, we considered consumer behavior from a choice-based point of view. That is, we assumed that consumers made choices about which consumption bundle to choose from a set of feasible alternatives, and, using some rather mild restrictions on choices (homogeneity of degree zero, Walras’ law, and WARP), were able make predictions about consumer behavior. Notice that our predictions were entirely based on consumer behavior. In particular, we never said anything about why consumers behave the way they do. We only hold that the way they behave should be consistent in certain ways. The traditional approach to consumer behavior is to assume that the consumer has well-de f ned preferences over all of the alternative bundles and that the consumer attempts to select the most preferred bundle from among those bundles that are available. The nice thing about this approach is that it allows us to build into our model of consumer behavior how the consumer feels about trading o f one commodity against another. Because of this, we are able to make more precise predictions about behavior. However, at some point people started to wonder whether the predictions derived from the preference-based model were in keeping with the idea that consumers make consistent choices, or whether there could be consistent choice-based behavior that was not derived from the maximization of well-de f ned preferences. It turns out that if we de f ne consistent choice making as homogeneity of degree zero, Walras’ law, and WARP, then there are consistent choices that cannot be derived from the preference-based model. But, if we replace WARP with a slightly stronger but still reasonable condition, called the Strong Axiom of Revealed Preference (SARP), 29
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Nolan Miller Notes on Microeconomic Theory: Chapter 3 ver: Aug. 2006 then any behavior consistent with these principles can be derived from the maximization of rational preferences. Next, we take up the traditional approach to consumer theory, often called “neoclassical” con- sumer theory. 3.1 Basics of Preference Relations We’ll continue to assume that the consumer chooses from among L commodities and that the commodity space is given by X R L + . The basic idea of the preference approach is that given any two bundles, we can say whether the f rst is “at least as good as” the second. The “at-least-as- good-as” relation is denoted by the curvy greater-than-or-equal-to sign: º . So, if we write x º y , that means that “ x is at least as good as y .” Using º , we can also derive some other preference relations. For example, if x º y ,w e could also write y ¹ x ,whe re ¹ is the “no better than” relation. If x º y and y º x esay that a consumer is “indi f erent between x and y ,” or symbolically, that x y . The indi f erence relation is important in economics, since frequently we will be concerned with indi f erence sets .
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This note was uploaded on 09/21/2011 for the course ECON 3022 taught by Professor Wer during the Spring '11 term at UC Irvine.

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Notes3 - Chapter 3 The Traditional Approach to Consumer Theory In the previous section we considered consumer behavior from a choice-based point of

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