Rational Consumer Choice Flashcards
A bundle
Combination of 2 or more goods
Budget constraint
The set of all bundles that exactly exhausts the consumers income at given prices
What happens when price shifts for budget constaints
If both goods rise in price, the constraint shifts outwards, if one rises in price the slope of the constraint changes
What 5 assumptions do we make for budget constraints ?
- For 2 variables we assume one if prefered to the other or equally attractive.
- Transitivity - if A > B and B > C then A > C
- More is always better then less
- Continuity, small changes in the bundle shouldn’t cause changes in preferences
- Convexity, a mixture of goods is preferred to extremes
Indifference curves
A set of bundles among which the consumer is indifferent
Properties of indifference curves
- They are ubiquitous (any bundle has an indifference curve passing through it)
- Downward sloping
- They cannot cross (transitivity A>B>C doesn’t hold here)
- Show trade-offs between goods
Where is the best affordable bundle ?
This is where the budget constraint is tangent to the indifference curve
Marginal rate of substitution (MRS)
At any point on the indifference curve is the rate at which the consumer is willing to exchange the good measured on the 2 axis (delta(y)/delta(x)), its the slope of the tangent for each point of the indifference curve
What is a corner solution ?
When the best affordable bundle lays on the axis so that there is 0 of one good consumed
What does the indifference curve look like for perfect Complements ?
Like this I_ a right angle
Price-consumption curve (PPC)
For a good x, the set of optimal bundles traced on a indifference map as the price of x varies
What does the PCC let us plot ?
An individual demand curve
Income-consumption curve
For a good x, the bundles traced on an indifference map as income varies
What can you use the ICC to plot ?
An Engel curve
Engel curve
A curve with income on the y-axis and a good on the x axis, can be used to tell if a good is inferior or normal
