consumer preference

Question 1

what is consumer preference ?

Answer 1

tells us how the consumer would rain any two baskets of goods, assuming they are free.

Question 2

who do you denote…

a. a strict preference of A over B
b. a weak preference of A over B
c. an indifference between A and B

Answer 2

a. A > B
b. A >/ B
c. A s B

Question 3

what is

a. complete preference
b. transitive preference

Answer 3

a. and good over another or an indifference

b. if a consumer prefers A over B and B over C then transitively we can assume that they prefer A over C

Question 4

what are the assumptions in consumer preference ?

Answer 4

monotonic - more is better; if a basket has more of one good and no less of any other it is obviously preferred.

complete - able to rank clearly

transitive

Question 5

what are the ways that we order preferences ?

Answer 5

a. ordinal - tells us what order they are ranked in, don’t actually care about the number
b. cardinal - tells us the intensity of the preference , cares about the exact numbers

we use ordinal rankings

Question 6

what is a utility function ?

Answer 6

measures the level of satisfaction a consumer gets from any basket of goods and services.

assigns a number to a good, the higher, the more prefered

U is a function of the quantity of the good

Question 7

what implications can be drawn from a utility function ?

Answer 7

the precise number has no contextual significance

cannot compare the numbers across individuals

any transformation of the function that preserves the original ranking is an equally good representation

e.g. U = 4y vs U = 4y + 3

Question 8

what is marginal utility and how do you calculate it ?

Answer 8

the additional utility the consumer gets from consuming another unit, the rate at which total utility rises as consumption rises

MUy = change u / change y OR du/dy

Question 9

what is diminishing/constant/increasing marginal utility ?

Answer 9

states how much more or less this unit added or took away from total utility than the last unit.

worked out by double differentiation of the utility function.

Question 10

what is an indifference curve ?

Answer 10

a curve/set is all the baskets for which the consumer is indifferent ( same utility )

a map illustrates a set of indifference curves for the same consumer.

as you move to the north east, there is more utility.

Question 11

what do the assumptions of preference mean for the indifference curve ?

Answer 11

monotonicity - negatively sloped, thin

transitivity - curves do not cross

completeness - each basket is on only one ic

Question 12

what is the marginal rate of substitution ?

Answer 12

the rate at which you substitute one good for another and keep the same level of utility.

MRSx,y = - changeY / changeX
it is the negative of the slope of the indifference curve and it equals the price ratio

Question 13

what is the diminishing marginal rate of substitution ?

Answer 13

the differential of the marginal rate of substitution and it is the rate at which the mrs decreases.

Question 14

name 4 different types of special function forms ?

a.
b.
c.
d.

Answer 14

a. cobb-douglas : u=AX^dY^b d + b = 1 all + constants
b. perfect substitutes : u=AX + BY
c. perfect complements : u=Amin(x,y)
d. quasi-linear : u=V(x) +AY

Question 15

define

a. budget set
b. budget constraint
c. budget line

Answer 15

a. set of baskets that are affordable
b. set of baskets that the consumer may chose given the limit of income
c. set of baskets one can purchase when spending all available income

Question 16

what is the equation for the budget constraint ?

Answer 16

Px.X + Py.Y = i expenditure = income

Question 17

on a diagram with the budget line, where is it and where is the budget set ?

Answer 17

the budget line is a downward sloping line and the budget set is the area under neath it

Question 18

what is the slope of the budget line ?

Answer 18

-Px / Py

Question 19

what shifts the budget line ?

Answer 19

income increases, BL shifts out

income decreases, BL shifts in

Question 20

how do price changes effect the slope of the budget line ?

Answer 20

Px increases , slope increases , x intercept moves in

Py increases , slope decreases , Y intercept moves down

Question 21

what are the consumer choice assumptions ?

Answer 21

• only non negative quantities

- rational choice (max Uwithin budget constraint problem)

Question 22

what is the interior optimum ?

Answer 22

the optimal basket is at the point where the budget line is tangent to the indifference curve

where MRSx,y = Px /Py
MUx /MUy = Px /Py

the rate at which the consumer is willing to exchange X for Y is = to the rate at which they are exchanged for at the market place

Question 23

what is a corner point ?

Answer 23

a point on the indifference curve where one good is not being consumed at all, so the optimal is on one of the axises

Question 24

what is a composite good ?

Answer 24

a good that represents the collective expenditure on every other good except the commodity being considered

Question 25

how do you solve a composite good optimum basket ?

Answer 25

for corner solutions you can’t make MRS = PriceRatio so you must therefore figure out which good is preferable and chose the basket that spends all the income on that baskets.

example, if the MRS is diminishing in X then the optimal basket is at the Y intercept.

Question 26

what does the indifference curve for perfect substitutes look like ?

Answer 26

it is an L shape with the regular budget line only ever touching the corner of the L

Question 27

how does an income subsidie effect the ic ?

Answer 27

as the subsidie can be spent on anything, it shifts the while ic to the right

Question 28

how does a non composite coupon effect the ic ?

Answer 28

only the part below the top of the original ic curve shifts, the rest is flattened.

Question 29

what is the dual problem ?

Answer 29

it is the mirror image of the constrained optimisation problem. min Px.X+Py.Y subject to U(x,y) = U* U* is the target U level.

Question 30

what is revealed preference ?

a. weak
b. strong

Answer 30

when a good is purchased its preferred, to all other affordable baskets.

a. when A is purchased and B costs the same
b. when A is purchased and its more expensive than B

Question 31

which direction is all strictly preferred ?

Answer 31

all baskets to the NE

assumes that consumers don’t make mistakes always chose optimum and preference doesn’t change.

Question 32

what is an individual demand curve and how do we construct one ?

Answer 32

knowing how individuals consumption changes as prices change will allow us to derive individual demand curves.

to create the individual demand curve we must find the consumers price consumption curve. set of optimal consumption bundles at different prices

its the relationship between price and quantity optimal.

Question 33

how do you calculate willingness to pay ?

Answer 33

set one of the price stop one and it gives you the amount of one good the consumer is willing to give up for another unit of income ? not sure tbh