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Analysis
Kamal Singh
Lecturer in Economics
Contents
Assumptions
Rational Consumer Ordinal Utility NonSatiety (More is Preferred to Less)
Diminishing Marginal Rate of
Substitution.
Consistency: If a consumer prefer A to
B in one period then he will not prefer
B to A in another period.
Transitivity: If a consumer prefer A to B
and B to C, then he must prefer A to C.
Combination
Oranges
Apples MRS
10
10:1
4:1
3:1
2:1
Marginal Rate of
Substitution
Marginal rate of substitution the
rate at which one good must be
added when the other is taken away
in order to keep the individual
indifferent between the two
combinations.
Indifference Map
An indifference map is a complete set of
indifference curves.
It indicates the consumers preferences
among all combinations of goods and
services.
The farther from the origin the indifference
curve is, the more the combinations of
goods along that curve are preferred.
Properties of ICs
The indifference curves are not likely to be
vertical, horizontal, or upward sloping.
A vertical or horizontal indifference curve holds the
quantity of one of the goods constant, implying that the
consumer is indifferent to getting more of one good
without giving up any of the other good.
An upward-sloping curve would mean that the consumer
is indifferent between a combination of goods that
provides less of everything and another that provides
more of everything.
Rational consumers usually prefer more to less.
Indifference Curves:
No Crossing Allowed!
Indifference curves cannot cross.
If the curves crossed, it would mean that the
same bundle of goods would offer two different
levels of satisfaction at the same time.
If we allow that the consumer is indifferent to
all points on both curves, then the consumer
must not prefer more to less.
There is no way to sort this out. The consumer
could not do this and remain a rational
consumer
Indifference Map
An indifference map is a complete set
of indifference curves.
It indicates the consumers
preferences among all combinations of
goods and services.
The farther from the origin the
indifference curve is, the more the
combinations of goods along that
curve are preferred
Budget Constraint
The indifference map only reveals the
ordering of consumer preferences
among bundles of goods. It tells us what
the consumer is willing to buy.
It does not tell us what the consumer is
able to buy. It does not tell us anything
about the consumers buying power.
The budget line shows all the
combinations of goods that can be
purchased with a given level of income
Consumer Equilibrium
The indifference map in combination with
the budget line allows us to determine
the one combination of goods and
services that the consumer most wants
and is able to purchase. This is the
consumer equilibrium.
The demand curve for a good can be
derived from indifference curves and
budget lines by changing the price of one
of the goods (leaving everything else the
same) and finding the equilibrium points.
Consumer Equilibrium