Econ 337 #3 - Theoretical Tools Positive vs. Normative...

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Unformatted text preview: Theoretical Tools Positive vs. Normative analysis Welfare Economics A systematic framework to assess the desirability of various government actions. Welfare economics is concerned with the social desirability of alternative economic states. Distinguishes cases when private markets work well from cases where government intervention may be warranted. Relies on basic microeconomic tools, A quick review Constrained utility maximization Utility function: A mathematical function representing an individuals set of preferences, which translates her well-being from different consumption bundles into units that can be compared in order to determine choice. Indifference curve: A graphical representation of all bundles of goods that make an individual equally well off. Because these bundles have equal utility , an individual is indifferent as to which y x Q Q U EX = : Gruber: Public Finance and Public Policy, Second Edition 1. Consumers prefer higher indifference curves. 2. Indifference curves are always downward sloping. / M C MRS MU MU = - Marginal rate of substitution ( MRS ): The rate at which a consumer is willing to trade one good for another. The MRS is equal to the slope of the indifference curve, the rate at which the consumer will trade the good on the vertical axis for the good on the horizontal axis Budget constraint: A mathematical representation of all the combinations of goods an individual can afford to buy if she spends her entire income. c m mc P P MRS = Welfare Economics...
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Econ 337 #3 - Theoretical Tools Positive vs. Normative...

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