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Section 02 _Consumers Part II

# Section 02 _Consumers Part II - Consumers Part II(Section 2...

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1 Consumers Part II (Section 2) I. Changes in income X- good of interest Y- all other goods A. Why is a change in income a parallel shift? 1. Reasoning and graphs Spse you are consuming at A and your income falls by \$10 but you still want to buy the same amount of X; how much less Y must you buy? Spse you are consuming at A and your income falls by \$10 but you still want to buy the same amount of X how much less Y must you buy? 2. Algebraically & graphically Budget line in slope intercept form: Y Y X P I X P P Y + = What happens if I changes to 2 I ?

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2 B. Change in optimum point Graph an increase in income Original optimal point is at A: o With the increase in income why can’t the new optimal point be at B or C? o Where does this imply the new optimum point will be?
3 1. Normal and inferior goods Normal good - As income rises you consume more (As income falls you consume less) ( ) 0 0 > > Δ Δ dI dX I X Inferior good - As income rises you consume less (As income falls you consume more) ( ) 0 0 < < Δ Δ dI dX I X Graphing normal and inferior goods for an income decrease (note: BC 1 must be parallel to BC 2 , why?) In which picture is X a normal good and which one is X an inferior good? Why?

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4 2. The Engel curve Engle curve - Holding prices fixed, what is relationship between income and the quantity of a good consumed? (relationship between income and amount consumed of a good) Ex P X =\$2 P Y =\$1 Graph : Draw Engel curve What type of good is X? o
5 II. Changes in price Assume I and P X remain fixed Spse P Y =\$1 and I =\$10 Graph BC’s for P X =\$1 P X =\$0.50 P X =\$2.00: Notice two things: 1. Change in price of X does not affect the Y intercept In words: 2. If P X pivots inward If P X pivots outward How to figure out: Look at extreme points

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6 A. The law of demand and Giffen goods Graph : In which of the following pictures does X violate the law of demand? Why? Giffen goods - A good that violates the law of demand
7 III. Derivation of the demand curve Demand curve - shows the relationship between a price of good and the consumption of a good Demand functions ( ) ( ) I p p y y I p p x x y x y x , , , , = = Comparative statics - comparing how choice responds to changes in the economic environment i.e. * How demand for x changes as x p changes * How demand for x changes as I changes * How demand for x changes as y p changes A. How to derive a demand curve Change the price of that good and hold everything else constant Spse the y p =\$2 and Income=\$20 Look at x p =\$1, x p =\$2, x p =\$3

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8 B. Some examples 1. Perfect substitutes What is a perfect substitute Give an example Graph: 2. Perfect compliments 3. A discrete good
9 C. Substitutes and compliments Substitutes - If when the price of good y goes up the demand for x increases, then x is a substitute for y ( ) 0 0 > > Δ Δ y y dP dX P X Compliments - If when the price of good y goes up the demand for x decreases, then x is a compliment for y ( ) 0 0 < < Δ Δ y y dP dX P X Note : In a two good world there are restraints of behavior that are not true for many goods (I.e. if you spend more on x you must spend less on y)

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10 D. Inverse demand function
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