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Lecture 4 Ch3-2012PresentationA

# Lecture 4 Ch3-2012PresentationA - Roadmap for Chapters 3 4...

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Roadmap for Chapters 3, 4, and 5 1 Chapter 3: Consumer Preferences and the Concept of Utility Show how utility functions can be used to represent consumer preferences over different sets of goods and services. (Here we assume goods are available at no cost to the consumer.) Chapter 4: Consumer Choice Characterize a consumer’s budget constraint, given the prices of goods and income Given preferences & a budget constraint, determine a consumer’s optimal choice of goods. Given observed choices under different budget constraints, infer how a consumer ranks of goods and services (Revealed Preference) . Chapter 5: The Theory of Demand Apply the optimal choice model to generate demand curves. Explain how a change in the price of a good affects a consumer’s welfare. Derive the market demand curve for a good from the demand curves of individuals in the market.

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Utility and Preferences 2 Basket (Bundle): A combination of goods an individual might consume. Example: Weekly consumption of food and clothing Basket E contains 20 units of food, 30 units of clothing Basket B contains 60 units of food, 10 units of clothing Axiom: “A proposition regarded as self-evident truth.” Axiom of Completeness: Preferences are complete. A consumer can compare (rank) any two baskets E and B. Each comparison must lead to one of the following three results: (i) E is strongly preferred to B (E B) (ii) E and B are equally preferred. (E ≈ B) (iii) B is strongly preferred to E (B E) Axiom of Transitivity: Preferences are transitive. If A is preferred to B and B is preferred to D, then A is preferred to D.
Two Types of Ranking 3 Ordinal Ranking: We know the order of the ranking, but do not know the intensity of the preferences. Consumer may rank the baskets as follows: A best, then G, E, B, H, J, D (“Ordinal” numbers are “first,” “second,” “third,” etc.) y xy y x U y x U y x U ) , ( ) , ( ) , ( Cardinal Ranking: We know the order of the ranking and the intensity of the preferences. Not only do we know that the consumer likes A better than E, but we also know how much more he likes A.

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Lecture 4 Ch3-2012PresentationA - Roadmap for Chapters 3 4...

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