Topic 7 - Welfare Flashcards
State 3 ways changes in welfare following a price change can be measured
- measure changes consumer surplus (diagram)
- compensating variation
- equivalent variation
What does the compensated hicksian demand curve represent?
MWTP - Marginal willingness to pay
MWTP is proxy for welfare
What is consumer surplus
Difference between the TWTP (total willingness to pay) and actual amount paid
Describe the compensating variation
When the price rises: how much money would the gov have to give the consumer after the price change to make him just as well off as he was before the price change
or
How far must the new budget line be shifted so it is just tangential to the original indifference curve
Mathematical analysis of CV
integral of area to the left of the hicksian demand curve between P1>P1*
CV = E2(p1, P2, U0) - E1(Pl*, P2, U0)
What is equivalent variation
BEFORE A PRICE RISE
how much money would have to be taken from the consumer before the price change to make him just as well off as he would be after the price change?
or
How far must we shift the ORIGINAL budget line so that it is just tangential to the NEW indifference curve (opposite way to CV)
Why does the same change in price lead to different changes in welfare depending on how we measure it
- £1 is worth differin amounts @ different prices
- CS, CV & EV will only be equal to each other if tastes are quasilinear (where strictly one good in a bundle has a linear utility function)
What is an endowment
A bundle of goods owned by a consumer and tradable for other goods (e1,e2)
What is a net demander vs net supplier of good 1
say you have e1 of good 1, but would choosr x1>e1
- this means you are a net demadner/buyer of good 1
- if you would choose x1<e1 you are a net supplier/seller of good 1
What is specific about the budget constraint for endowments
- budget constraint always passes through (e1,e2)
- if the price changes, the budget line pivots abiut (e1,e2) rather than the intercepts
How is income different for endowments
- income is determined by your endowments and prices so now it id endogenous bc it dep on your endowments of goods which cna be sold to earn yourself money (more income) to buy other goods
Explain the idea of intertemporal choice
- there are two periods: present and furture
- we can save income for the future or spend it in the present
- for every £! spent today, next years consumption falls by (1+R) as that 1 pound could have been saved and earnt interest so it is 1+ r
- the most i have for consumption in furture is what is woukd have if c1=0 mines (1+R)times my actual consumption this summer where 1 is period 1 present day
- so opp cost of spending £1 is 1+r tomo
What are the graphs of lenders and borrowers showing
- axes:y axis is period 2 (future), x axis is period 1 (present)
- y intercept of budget line: (1+r)m1 + m2
- x intercept of budget line: m1 + m2/(1+r)
- lender in p1 if: m1>x1* on x axis for present
- borrower in p1 if m1<x1* on axis for the present
In the n model what is the opportunity cost fo spending
(1+r)^n
