Consumer Choice Flashcards
Consumer theory underlies
the demand curve
Producer theory underlies
the supply curve
Two key components of utility maximization
Consumer preferences when faced with a choice
Consumer budget constraint – given their resources, what can they afford?
What are the three preference assumptions to underlie our model of indifference curves?
Completeness, transitivity, non-satiation
Completeness
if you’re comparing two bundles of goods, you prefer one, the other or you’re indifferent (I don’t know isn’t an option)
Transitivity
If a is preferred to b, b is preferred to c, then a is preferred to c
Non-satiation
“More is better” assumption, you always want more of something ; you might barely prefer a little bit more, but you’ll always want more no matter what
Indifference curves
Indifference curves map preferences, allowing us to model how we think a consumer will behave
Specifically, this is the curve that shows all the consumption bundles among which the consumer is indifferent.
Properties of indifference curves
Higher is better (further you are from the origin)
Downward sloping
Indifference curves never cross
There is only one indifference curve for any given bundle
Utility function
The underlying measure of wellbeing; mathematically represents preferences
How can we interpret the number of utils?
This is an ordinal concept (not cardinal); the “number” of utils are meaningless; they just let us rank what makes me happier
Any normal transformation of a utility function will always give us the same answer – the ranks won’t change
Marginal utility
The derivative of the utility function with respect to the quantity of goods
Diminishing marginal utility
Negative correlation between quantity and incremental happiness; The more of something you get, the less incrementally happy it makes you.
What determines the slope of the indifference curve?
The slope measures the rate at which you’re willing to give up one good to get another
Marginal rate of substitution
MRS = -ΔY/ΔX = -MUx / MUy
The rate at which you’re willing to trade the y-axis for the x-axis; This is telling you how the marginal utility evolves as you move down the indifference curve.
Two fundamental components of consumer theory
The two fundamental components of consumer theory are (1) what the consumer wants, i.e. their preferences, and (2) what the consumer can afford, i.e. their budget constraint.
The property “only one indifference curve passes through each bundle” is associated with what assumption about preferences?
Completeness
The property “indifference curves farther from the origin are better” is associated with what assumption about preferences?
Non-satiation
The property “indifference curves never cross” is associated with what assumption about preferences?
Transitivity
The property “indifference curves are downward sloping” is associated with what assumption about preferences?
Non-satiation
Are marginal utilities positive, negative, or could they be both?
Marginal utilities are always positive because we always derive additional utility from more of every good.
What did we learn from the UK child tax credit reform natural experiment?
When women controlled the money, they spent more money on children’s clothes, and less on alcohol and cigarettes. The fact that women and men spent the money differently either means that one or both were not maximizing family welfare, or that they had different ideas about how to maximize family welfare. The results suggest that money intended for children may not be being spent in their best interest, which suggests a role for the government to intervene on the children’s behalf.
Another name for the slope of the indifference curve?
Marginal rate of substitution; MRS is the ration of marginal utilities
MRS = - MUx/MUy = -dU/dx / dU/dy
diminishing as you move along the indifference curve
Budget constraint over two goods X and Y is defined as:
I = px * X + py Y
