Micro Week 1

Question 1

What assumptions are made about consumer behavior?

Answer 1

Consumers are rational, prefer more to less, seek to maximize utility, act in self-interest, and do not consider the utility of others.

Question 2

What is utility?

Answer 2

Utility is the satisfaction derived from consuming a product. It helps rank preferences and is reflected in the amount buyers are willing to pay for a good.

Question 3

What is total utility (TU)?

Answer 3

Total utility is the satisfaction consumers gain from consuming a product.

Question 4

What is marginal utility (MU)?

Answer 4

Marginal utility is the increase in satisfaction a consumer gets from consuming an additional unit of a good.

Question 5

What is diminishing marginal utility?

Answer 5

It refers to the tendency for the additional satisfaction from consuming extra units of a good to decline.

Question 6

What role do consumer preferences play?

Answer 6

Preferences determine consumer choices and can be illustrated using indifference curves.

Question 7

What is an indifference curve?

Answer 7

An indifference curve shows consumption bundles that provide the same level of satisfaction to a consumer.

Question 8

What are the properties of indifference curves?

Answer 8

Higher curves are preferred, curves slope downward, curves do not intersect, and curves are convex.

Question 9

Why are indifference curves convex?

Answer 9

Because of the decreasing marginal rate of substitution (MRS), consumers trade goods more readily when they have them in abundance and less so when they have less of them.

Question 10

What is the marginal rate of substitution (MRS)?

Answer 10

MRS is the rate at which a consumer is willing to trade one good for another, represented by the slope of the indifference curve.

Question 11

How is MRS calculated?

Answer 11

MRS equals the marginal utility of one good divided by the marginal utility of the other good.

Question 12

What does the Perfect Subsititue indifference curve look like?

Answer 12

Two goods with straight-line indifference curves, where the MRS is constant. Consumers choose either at the x-axis or y-axis.

Consumers are equally happy with a specific combination of the two goods as long as the trade-off ratio (slope of the indifference curve) is maintained.
For example, if two brands of bottled water are perfect substitutes, a consumer might trade 1 bottle of Brand A for 1 bottle of Brand B without any change in satisfaction.

Question 13

What are perfect complements?

Answer 13

Key Features in the Graph:
Example in the Graph:

The goods here are left shoes and right shoes.
A consumer needs 1 left shoe for every 1 right shoe to derive any utility. Having more left shoes without additional right shoes, or vice versa, does not increase utility.
Indifference Curves:

The indifference curves are shaped like L-shaped right angles.
The kink (corner) of the curve occurs where the quantities of the two goods are in the ideal fixed proportion (e.g., 5 left shoes and 5 right shoes on
𝐼1)
Moving along the vertical or horizontal parts of the curve means an excess of one good, which does not increase utility.Two goods with right-angle indifference curves, where the MRS is zero, and goods are consumed in fixed proportions.

The only way to increase utility is to increase the amount of complete pairs

Question 14

What happens with economic “bads”?

Answer 14

Indifference curves for “bads” have a positive slope, as consumers prefer less of the “bad.”

2. Positive Slope of Indifference Curves:
   Indifference curves usually have a negative slope when comparing two “goods” (e.g., trading off between two desirable items).
   In this case, because anchovies are a “bad,” the consumer requires more of the “good” (pepperoni) to tolerate an increase in the “bad” (anchovies).
   As a result, the indifference curves have a positive slope, reflecting the compensation needed for the increased disutility caused by more anchovies.
3. Movement Along the Indifference Curve:

If the amount of anchovies increases (moving up the y-axis), the consumer needs additional pepperoni (moving to the right on the x-axis) to maintain the same level of utility.
The arrows on the indifference curve show the direction of increasing satisfaction, moving toward more pepperoni and fewer anchovies.

Question 15

What happens with neutral goods?

Answer 15

Indifference curves for neutral goods are vertical lines, as the consumer is indifferent to the neutral good but prefers the other good.

The concept of neutral goods refers to goods that a consumer does not care about—they neither increase nor decrease the consumer’s utility, regardless of the quantity consumed.

In this graph, the consumer views pepperoni as a desirable good (they derive utility from it) and anchovies as a neutral good (they are indifferent to its presence or amount).

Key Observations from the Graph:
Vertical Indifference Curves:

The indifference curves are vertical lines because the consumer’s utility depends only on the amount of pepperoni they consume.
Changing the quantity of anchovies (along the y-axis) does not affect the consumer’s satisfaction.

Question 16

What is satiation?

Answer 16

Satiation occurs when indifference curves surround a bliss point where the consumer achieves maximum satisfaction.

Key Observations from the Graph:
Satiation Point (Bliss Point):

The satiation point is the center of the concentric indifference curves in the graph.
At this point, the consumer has the optimal combination of goods

that maximizes their utility.
Moving away from this point in any direction (increasing or decreasing
or
) reduces the consumer’s utility.
Indifference Curves:

The curves are concentric circles around the satiation point.
Utility decreases as you move away from the satiation point, whether you increase or decrease the quantities of

beyond their optimal levels.
Direction of Utility:

The arrows on the graph indicate the direction of increasing utility, which moves toward the satiation point.
Moving outward from the satiation point (e.g., consuming excessive amounts of goods) decreases utility.

Question 17

Why is the Satiation Point graph circular?

Answer 17

Why Circular Indifference Curves?
Standard Indifference Curves:

Normally, indifference curves are convex (bowed toward the origin), reflecting the principle of diminishing marginal utility and trade-offs between goods.
The consumer’s utility increases as they move away from the origin, consuming more of the goods.
Satiation Changes the Dynamic:

In the case of satiation, the consumer has a specific optimal combination of goods (the satiation point, or bliss point).
Moving away from this point—by either increasing or decreasing the quantities of the goods—reduces their utility, as they are no longer consuming the ideal amounts.
This creates indifference curves that surround the bliss point like concentric circles.
Circular Shape:

The circular shape reflects the idea that distance from the bliss point determines the consumer’s utility.
No matter the direction—whether increasing x1 or x2
, or both—the utility decreases as you move away from the bliss point.
Utility Gradient:

Question 18

What is the basis of the standard theory of consumer choice?

Answer 18

It is based on a series of assumptions about human behavior, predicting outcomes that derive the demand curve and analyze price impacts on demand.

Question 19

What assumptions does the standard economic model (SEM) make about consumer behavior?

Answer 19

Assumptions include: consumers behave rationally, prefer more to less (monotonicity), seek to maximize utility, and act in self-interest without considering others’ utility.

Question 20

What does the SEM aim to explain?

Answer 20

It explains trade-offs faced by consumers, such as choosing between goods, leisure vs. work, and present vs. future consumption under income constraints.

Question 21

Define the opportunity cost in the context of consumer choice.

Answer 21

Opportunity cost is the value of the next best alternative sacrificed when a consumer makes a choice.

Question 22

What is ‘value’ in consumer behavior?

Answer 22

Value refers to the worth of owning an item, represented by the satisfaction derived from its consumption and the willingness to pay for it.

Question 23

What is the water-diamond paradox?

Answer 23

A paradox where water, essential for life, has low value, while diamonds, with little practical use, have high value in exchange.

Question 24

How did Adam Smith and William Stanley Jevons differ in explaining value?

Answer 24

Adam Smith linked value to labor inputs, while Jevons proposed that value depends on the utility derived by consumers.

Question 25

What does the willingness to pay (WTP) principle signify?

Answer 25

WTP reflects the maximum amount consumers are ready to pay for a product, indicating its perceived value.

Question 26

What is a budget constraint?

Answer 26

It is the limit on the consumption bundles a consumer can afford given their income and prices of goods.

Question 27

What happens when income changes but prices remain constant?

Answer 27

The budget constraint shifts: it moves outward with increased income and inward with reduced income.

Question 28

How does the price of goods affect the budget constraint?

Answer 28

Changes in prices pivot the budget constraint. An increase in price pivots it inward, while a decrease pivots it outward.

Question 29

How is the opportunity cost represented on the budget constraint?

Answer 29

It is the slope of the budget constraint, reflecting the rate at which one good must be sacrificed for another.

Question 30

What is an indifference curve?

Answer 30

A curve that shows consumption bundles providing the same level of utility to the consumer.

Question 31

What are the properties of indifference curves?

Answer 31

1. Higher curves are preferred. 2. They slope downwards. 3. They do not cross. 4. They are bowed inward (convex).

Question 32

What is the marginal rate of substitution (MRS)?

Answer 32

The rate at which a consumer is willing to trade one good for another while maintaining the same level of satisfaction.

Question 33

Why are indifference curves bowed inward?

Answer 33

They reflect a consumer’s greater willingness to trade away goods they have in abundance compared to goods they have in scarcity.

Question 34

Define total utility.

Answer 34

The total satisfaction a consumer gains from consuming a product.

Question 35

What is marginal utility?

Answer 35

The additional satisfaction a consumer gets from consuming one extra unit of a good.

Question 36

What is diminishing marginal utility?

Answer 36

The tendency for additional satisfaction (marginal utility) from consuming extra units of a good to decrease as consumption increases.

Question 37

How does diminishing marginal utility affect consumer choice?

Answer 37

Consumers derive less satisfaction from additional units, influencing their willingness to pay for further consumption.

Question 38

What are perfect substitutes?

Answer 38

A perfect substitute is a product or service that can be used in place of another without any noticeable difference in quality or outcome.

Perfect substitutes may have an MRS of 1:1 (e.g., 1 unit of A for 1 unit of B) or any other fixed ratio (e.g., 2:1, where 1 unit of A substitutes for 2 units of B).