chap 21 - The theory of consumer choice

# chap 21 - The theory of consumer choice - Chapter 21 Budget...

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Chapter 21

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Budget Constraint: What the Consumer can Afford Budget constraint Limit on the consumption bundles that a consumer can afford Trade-off between goods Slope of the budget constraint Rate at which the consumer can trade one good for the other Relative price of two goods 2
Figure The consumer’s budget constraint (graph) 1 3 The table and graph show what the consumer can afford if his income is \$1,000, the price of pizza is \$10, and the price of Pepsi is \$2. Quantity of Pepsi Quantity of Pizza 0 Consumer’s budget constraint 50 500 100 250 C B A

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Preferences: What the Consumer Wants Indifference curve Shows consumption bundles that give the consumer the same level of satisfaction Combinations of goods on the same curve Same satisfaction Slope of indifference curve Marginal rate of substitution Rate at which a consumer is willing to trade one good for another 4
Figure The consumer’s preferences 2 5 The consumer’s preferences are represented with indifference curves. Because the consumer prefers more of a good, points on a higher indifference curve (I 2 here) are preferred to points on a lower indifference curve (I 1 ). The marginal rate of substitution (MRS) shows the rate at which the consumer is willing to trade Pepsi for pizza. It measures the quantity of Pepsi the consumer must be given in exchange for 1 pizza. Quantity Of Pepsi Quantity of Pizza 0 Indifference curve, I 1 I 2 C B A D 1 MRS

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Preferences: What the Consumer Wants Four properties of indifference curves 1.Higher indifference curves are preferred to lower ones Higher indifference curves – more goods 1.Indifference curves are downward sloping 2.Indifference curves do not cross 3.Indifference curves are bowed inward 6
Figure Bowed indifference curves 4 7 Indifference curves are usually bowed inward. This shape implies that the marginal rate of substitution (MRS) depends on the quantity of the two goods the consumer is consuming. At point A, the consumer has little pizza and much Pepsi, so he requires a lot of extra Pepsi to induce him to give up one of the pizzas: The marginal rate of substitution is 6 pints of Pepsi per pizza. At point B, the consumer has much pizza and little Pepsi, so he requires only

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## This note was uploaded on 02/08/2012 for the course TFTGFT 012 taught by Professor Hfyfgy during the Winter '11 term at Alaska Bible.

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chap 21 - The theory of consumer choice - Chapter 21 Budget...

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