Preferences Flashcards
Preference Relations
Strict preference: (x1, x2) ≻ (y1, y2) → Consumer prefers (x1, x2) over (y1, y2).
Indifference: (x1, x2) ∼ (y1, y2) → Consumer is equally satisfied with both bundles.
Weak preference: (x1, x2) ≥ (y1, y2) → Consumer prefers or is indifferent to (x1, x2) compared to (y1, y2).
Preference Assumptions (Axioms)
Completeness: Any two bundles can be compared.
Reflexivity: A bundle is at least as good as itself.
Transitivity: If (x1, x2) ≥ (y1, y2) and (y1, y2) ≥ (z1, z2), then (x1, x2) ≥ (z1, z2).
Transitivity ensures consistent choices
What do indifference curves represent and why can’t they cross?
Indifference curves represent all consumption bundles that a consumer perceives as equally satisfying. They cannot cross because it would imply that two distinct levels of preference are equal, which violates the principle of transitivity.
What are perfect substitutes, and what do their indifference curves look like?
What are perfect complements, and what shape do their indifference curves take?
Perfect substitutes are goods that can replace each other at a constant rate. Their indifference curves are parallel straight lines with a constant slope, such as -1 for a 1:1 ratio of substitution.
Perfect complements are goods always consumed together in fixed proportions, like left and right shoes. Their indifference curves are L-shaped, with corners where the quantities match the fixed proportions
How are “bads” represented on indifference curves?
What are neutral goods, and how are they depicted on indifference curves?
A “bad” is a good the consumer dislikes. Indifference curves slope upward to the right because more of the bad good requires more of the good good to keep the consumer equally satisfied.
Neutral goods are those the consumer doesn’t care about. Indifference curves for neutral goods are vertical lines, showing that the consumer’s satisfaction doesn’t change with more or less of the neutral good.
What is a satiation point (bliss point), and how are indifference curves shaped around it?
A satiation point is where a consumer’s satisfaction is maximized. Indifference curves surround this point, sloping negatively when there is too little of both goods and positively when there is too much of one.
What are discrete goods in economic terms?
Discrete goods are those that are available only in whole, indivisible units, such as cars or houses, where fractional amounts don’t make sense
Preferences over discrete goods can be represented as individual points or line segments, unlike continuous goods where indifference curves are smooth lines.
It is important when the consumer chooses only one or two units of the good. For large quantities, like 30 or 40 units, it may be more convenient to treat the good as continuous
What is monotonicity of preferences?
Monotonicity implies that more of a good is always preferred, meaning that indifference curves have a negative slope, representing a preference for higher consumption.
What assumption is made about the average of two bundles of goods in well-behaved preferences?
Averages are preferred to extremes. If two bundles are on the same indifference curve, a weighted average of them will be at least as good as the original bundles.
What is a convex set in the context of preferences?
How does convexity affect indifference curves?
What is strict convexity in preferences?
A convex set means that for any two points in the set, the line segment connecting them is also within the set, representing that averages of bundles are weakly preferred.
Convex preferences result in indifference curves that are bowed inward, implying that consumers prefer a mix of goods rather than specializing in one.
Strict convexity implies that the average of two indifferent bundles is strictly preferred to either bundle, leading to more “rounded” indifference curves with no flat spots.
What is the marginal rate of substitution (MRS)?
How does the MRS relate to consumer behaviour?
What is the marginal willingness to pay?
MRS is the slope of the indifference curve at a particular point and measures the rate at which a consumer is willing to substitute one good for another.
The MRS shows the rate at which a consumer is on the margin of trading goods. If the exchange rate equals the MRS, the consumer won’t change their consumption bundle.
The MRS can be interpreted as the consumer’s marginal willingness to give up some of one good (or money) to obtain a little more of another good.
