Consumer Theory Flashcards
What does indifference mean?
Indifference= doesn’t bother/mind compared to current predicament, any point is the same utility
What does it mean below the indifference curve?
Below the indifference curve= not preferred,
What does it mean above the indifference curve?
above = preferred (marginal benefit
What do we expect of a rational buyer?
All bundles can be compared and all bundles can be ranked consistently
Why do we have axioms
- Have simplest possible theory
- Make clear hidden assumptions
- Develop testable predictions
What do we expect of most people most of the time?
SImilar bundles should have similar rankings
More is better
Averages preffered to extremes
How many axioms do we have?
5
- Completeness (all bundles can be compared
- Transitivity (all bundles can be ranked consistently)
- Continuity (similar bundles have similar rankings)
- Monotonicity (more is preferred to less)
- Convexity (averages preferred to extremes)
What are the well behaved prefences?
Axiom 3- continuity
Axiom 4- Monotonicity
5- Convexity
Describe axiom 1 - completeness
AXIOM 1: COMPLETENESS (all bundles can be compared)
For bundles A and B:
either A is (weakly) preferred to B or vice versa
● Weak preference versus strict preference
What are axioms for?
rational consumers
Describe axiom 2 transitivity
AXIOM 2: TRANSITIVITY (all bundles can be ranked consistently)
For all bundles A, B and C:
If A is preferred to B and B is preferred to C, then A is preferred to C
EXAMPLE: A = Porsche B = Ford C = Vauxhall If A1 and A2 hold, we say a preference ordering exists
Describe axiom 3- continuity
‘Well behaved’ preferences
AXIOM 3: CONTINUITY (similar bundles have similar rankings)
For all bundles A, B and C:
If A is strictly preferred to B and B is ‘close’ to C, then A is (weakly) preferred to C
Describe axiom 4- monotonicity
‘Well behaved’ preferences
AXIOM 4: MONOTONICITY (more is preferred to less)
For all bundles A and B:
If A has more of both goods than B, then A is strictly preferred to B
Describe axiom 5- convexity
AXIOM 5: CONVEXITY (averages preferred to extremes)
If A is indifferent to B and C is on a line connecting A and B, then C is (weakly) preferred to A and B
What is utility?
The number assigned to a bundle is called total utility- how much satisfaction a bundle yields, often in ‘utils’ as the unit
Utility is only an ordinal concept (only ranking matters)
For axiom 1, 2 and 3 what can be used to represent them?
AXIOM 1, 2 & 3: indifference curves can be used to represent preferences
What does the indifference curve for axio 4 look like?
AXIOM 4 Monotonicity: indifference curves are downward sloping
What does an upward sloping indiffierence curve suggest?
An upward sloping Indifference curve suggest indifference when somebody’s got more of both goods
What does a downwards sloping indifference curve suggest?
A downward sloping indifference curve suggests a tradeoff between the two goods
Graph to show upwards sloping and downward sl;oping indifference cruves
How are indifference curves bowed?
What shape does axiom 5 convexity have?
AXIOM 5 Convexity (averages are preferred to extremes): indifference curves have familiar shape
What does it mean if indifference curves cross?, graph too
What does axiom 2, trasivity say about indifference curves?
They cannot cross
What are indifference curves for perfect susbitutes and what does this indicate? Graph too
What are indifference curves for perfect complements and what does this indicate? graph too
What are bads indifference curves and draw graph?
What is a bliss point indifference curve? Graph too
Summary notes for indifference curves
What is a buyers choice cosntrained on?
by what they can afford
What is a consumer?
A price taker
What does being a price taker constitute?
Price is constant no matter how much one buys
WHat does a budget constraint show? Graph too
Graph to show an increase in income on the budget constraint