Utility Optimization

# Utility Optimization - information, it is simply a matter...

This preview shows page 1. Sign up to view the full content.

Utility Optimization While it is impossible to know exactly what goes on inside a buyer's head while they are making a decision, we can assume that a normal person will choose whichever combination will make them as happy as possible, given their choices and their budget. On the graph, this means that they will choose whichever combination lands them on the highest indifference curve possible. We can see this optimization if we draw in the consumer's budget constraint on the same graph as the consumer's indifference curves. To draw a budget constraint, a line that shows the maximum amount of goods a buyer can purchase with their available funds, you need to know two things: 1) how much money they have, and 2) the prices of the two goods being considered. Once you have both pieces of
This is the end of the preview. Sign up to access the rest of the document.

Unformatted text preview: information, it is simply a matter of finding out the maximum amount of the first good you can buy, without buying any of the second, then finding the maximum amount of the second good you can buy, without buying any of the first. Mark these points on the graph and connect them. To illustrate, suppose Tina has \$100. She is deciding how many bottles of wine and how many wine glasses she wants to buy. If wine costs \$20 a bottle and glasses cost \$5 each, then the most wine she can buy is (\$100/\$20)=5 bottles. Likewise, she can buy at most (\$100/\$5)=20 wine glasses. Her budget constraint would look like the darker line, while the filled area includes all of her possible buying decisions, given the amount of money she has. Anything not included in the colored area is out of her budget:...
View Full Document

## This note was uploaded on 02/09/2012 for the course ECO ECO2013 taught by Professor Jominy during the Fall '08 term at Broward College.

Ask a homework question - tutors are online