Lecture 3 Consumer Choice - Lecture 3 Consumer Choice...

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1 Lecture 3 Consumer Choice Theory EC1101E Introduction to Economic Analysis
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2 Lecture Outline 1. Consumer choice theory 2. Concept of utility (total and marginal) and the law of diminishing marginal utility. 3. Difference between the old utility theory and the modern consumer choice theory – indifference curve analysis. 4. Consumer’s budget constraint ; budget set, the budget line, and the slope of the budget line. 5. Consumer’s preferences; indifference curves and the marginal rate of substitution, indifference map. 6. Utility maximization. 7. Effect of a change in price - Deriving the individual demand curve. 8. Effect of a change in income. 9. The equi-marginal rule.
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3 Consumer Choice Theory The challenge faced by the consumer is to use the limited resources at his disposal to fulfill his desires to the greatest possible degree. The practical question is how should he allocate his fixed income among the various goods and services that
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Consumer Choice Theory Consumer choice theory is based on the notion that consumers do the best they can, given the limitations dictated by their incomes and consumer prices. The model recognizes that the goods and services are not ends in themselves but rather means to satisfy wants. 4
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5 Concept of Utility To measure our wants/satisfaction we need to introduce the concept of utility . Utility is the satisfaction or pleasure the consumer experiences when he or she consumes a product or service. A util is an imaginary unit of utility or satisfaction from the consumption of a good or service.
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Utility Maximization Assumption: The consumer tries to allocate his income so as to maximize his or her satisfaction. This objective is referred to as utility maximization . The consumer’s goal is to maximize the total number of utils obtained from the good or service consumed. Old Utility Theory assumes that utility is “measurable 6
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7 Total Utility (TU) Is the total satisfaction (measured in utils) a consumer gets from consuming whatever quantity of a product within a given time period. As the quantity of the good consumed increases, the utility or satisfaction increases, but at a decreasing rate.
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8 Marginal Utility (MU) Is the extra utility or satisfaction from consuming one extra unit of a good within a given time period. As more units of a good are consumed, additional units will provide less additional satisfaction than previous units.
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9 Total Utility and Marginal Utility 9 0 1 2 7 8 14 26 50 120 140 152 182 Total utility (units) Roti pratas per month (A) Total Utility 1 2 7 8 Roti pratas per month (B) Marginal Utility Marginal Utility (units) 0 12 24 26 y Increasing 1 unit of consumption here increases utility by 12 units x w v u Increasing 1 unit of consumption here increases utility by 24 units
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10 Law of Diminishing Marginal Utility As consumption of a particular good increases, marginal utility decreases.
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This note was uploaded on 02/12/2012 for the course ECON EC1101 taught by Professor Ms during the Spring '08 term at National University of Singapore.

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Lecture 3 Consumer Choice - Lecture 3 Consumer Choice...

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