A term for this is constrained utility maximization with income and wealth as

A term for this is constrained utility maximization

This preview shows page 3 - 5 out of 15 pages.

tastes, etc. A term for this is 'constrained utility maximization' (with income and wealth as the constraints on demand). Here, utility refers to the hypothesized relation of each individual consumer for ranking different commodity bundles as more or less preferred. The law of demand states that, in general, price and quantity demanded in a given market are inversely related. That is, the higher the price of a product, the less of it people would be prepared to buy of it (other things unchanged ). As the price of a commodity falls, consumers move toward it from relatively more expensive goods (the substitution effect ). In addition, purchasing power from the price decline increases ability to buy (the income effect ). Other factors can change demand; for example an increase in income will shift the demand curve for a normal good outward relative to the origin, as in the figure.
Image of page 3
Supply is the relation between the price of a good and the quantity available for sale at that price. It may be represented as a table or graph relating price and quantity supplied. Producers, for example business firms, are hypothesized to be profit-maximizers , meaning that they attempt to produce and supply the amount of goods that will bring them the highest profit. Supply is typically represented as a directly-proportional relation between price and quantity supplied (other things unchanged). That is, the higher the price at which the good can be sold, the more of it producers will supply, as in the figure. The higher price makes it profitable to increase production. Just as on the demand side, the position of the supply can shift, say from a change in the price of a productive input or a technical improvement. Market equilibrium occurs where quantity supplied equals quantity demanded, the intersection of the supply and demand curves in the figure above. At a price below equilibrium, there is a shortage of quantity supplied compared to quantity demanded. This is posited to bid the price up. At a price above equilibrium, there is a surplus of quantity supplied compared to quantity demanded. This pushes the price down. The model of supply and demand predicts that for given supply and demand curves, price and quantity will stabilize at the price that makes quantity supplied equal to quantity demanded. Similarly, demand-and-supply theory predicts a new price-quantity combination from a shift in demand (as to the figure), or in supply. For a given quantity of a consumer good, the point on the demand curve indicates the value, or marginal utility , to consumers for that unit. It measures what the consumer would be prepared to pay for that unit. [20] The corresponding point on the supply curve measures marginal cost , the increase in total cost to the supplier for the corresponding unit of the good. The price in equilibrium is determined by supply and demand. In a perfectly competitive market , supply and demand equate marginal cost and marginal utility at equilibrium. [21] On the supply side of the market, some factors of production are described as (relatively)
Image of page 4
Image of page 5

You've reached the end of your free preview.

Want to read all 15 pages?

  • Left Quote Icon

    Student Picture

  • Left Quote Icon

    Student Picture

  • Left Quote Icon

    Student Picture

Stuck? We have tutors online 24/7 who can help you get unstuck.
A+ icon
Ask Expert Tutors You can ask You can ask You can ask (will expire )
Answers in as fast as 15 minutes