Possibilities, Preferences and Choices Flashcards
What are consumption possibilities?
- Choices limited by income and prices
- Budget lines describe the limits to consumption choices
What are divisible and indivisible goods?
- Divisible goods can be bought in the quantity desired e.g petrol and electricity
- Indivisible goods must be bought in specific quantities
What are affordable and unaffordable quantities?
- Budget lines mark the boundary between the affordable and unaffordable
- Budget constraints change according to changes of the price or income
What is the budget equation?
The budget line is described through the budget equation. Expenditure = income. (Y)
Expenditure = (price x quantity of good A) + (price x quantity of good B)
What is real income?
Real income is expressed as a quantity of goods that the household can afford to buy e.g Y/Pa - this quantity is the maximum amount of good A you can buy
What is relative price?
A relative price is the price of one good divided by the price of another good. The price of good A in terms of good B
How does a change in price influence the budget line?
When price changes, so does the budget line. The lower the price of the good measured on the x axis, other things remaining the same, the flatter is the budget line. The higher the price of the good, the steeper is the budget line.
How does a change in income influence the budget line?
A change in money income changes real income but does not change the relative price. The budget line shifts, but its slope does not change. An increase in money income increases real income and shifts the budget line right. A decrease in money income decreases real income and shifts the budget line left
What is a preference map?
A preference map is based on intuitively appealing idea that people can sort all the possible combinations of goods into three groups: preferred, not preferred and indifferent. A series of indifference curves.
What is an indifference curve?
An indifference curve is a line that shows all the combinations of goods and services among which a consumer is indifferent.
What is the marginal rate of substitution?
The MRS is the rate at which a person will give up good y to get an additional unit of good x.
How is the MRS affected if the indifference curve is steep?
MRS is high. The person is willing to give up a large quantity of good y to get an additional unit of good x while remaining indifferent
How is the MRS affected if the indifference curve is flat?
MRS is low. The person is willing to give up a small amount of good Y to get an additional unit of good x while remaining indifferent.
What is a diminishing MRS?
A general tendency for a person to be willing to give up less of good y to get one more unit of good x while remaining indifferent as the quantity of good x increases.
What are close substitutes?
Close substitutes = may not know the difference.
The different brands of pens are an example of this
When two goods are perfect substitutes, their indifference curves are straight lines that slope downward