Transcript Consumer Behavior and Utility Maximization

Consumer Behavior and
Utility Maximization
Chapter 19 AP Economics
Law of Diminishing Marginal Utility
• Added satisfaction declines as a consumer
acquires additional units of a given product
• Consumer wants in general are insatiable,
but wants for particular items can be
satisfied
– Durable goods such as an automobile
Utility
• A product has utility if it can satisfy a want:
Utility has a wanting satisfying power
• Satisfaction or pleasure one gets from
consuming it
• Utility and usefulness are not synonymous
• Utility is subjective—a specific product
may vary widely from person to person
• Utility is difficult to quantify
Total Utility and Marginal Utility
• Total utility
– Total amount of satisfaction or pleasure a
person derives from consuming some specific
quantity
• Marginal utility
– The extra satisfaction a consumer realizes
from an additional unit of that product
– Change in total utility that results from the
consumption of 1 more unit of a product
Law of Diminishing Marginal Utility
(1)
(2)
(3)
Tacos
Total Marginal
Consumed Utility, Utility,
Per Meal Utils
Utils
2
3
4
5
6
7
0
10
18
24
]
]
]
]
28
]
30
]
30
]
28
10
8
4
2
0
-2
30
TU
20
10
0
6
Marginal Utility (Utils)
0
1
Total Utility (Utils)
Total Utility
1
2
3
4
5
6
Units Consumed Per Meal
7
Marginal Utility
10
8
6
4
2
0
-2
MU
1
2
3
4
5
6
Units Consumed Per Meal
7
Theory of Consumer Behavior
• Explains how consumers allocate their
money incomes among the many goods
and services available for purchase
Theory of Consumer Behavior
Numerical Example:
Utility-Maximizing Combination of Products
A and B Obtainable with an Income of $10
(1)
Unit of
Product
(2)
Product A:
Price = $1
(b)
Marginal
(a)
Marginal
Utility
Utility,
Per Dollar
Utils
(MU/Price)
(3)
Product B:
Price = $2
(b)
Marginal
(a)
Marginal
Utility
Utility,
Per Dollar
Utils
(MU/Price)
First
10
10
24
12
Second
8
8
20
10
Third
7
7
18
9
Compare
Marginal
Utilities
Fourth
6
6
16
8
Then
Compare
Per 5Dollar - MU/Price
Fifth
5
12
6
Choose
the4Highest4
Sixth
6
3
Check
- Proceed
to Next
Item2
Seventh Budget
3
3
4
Theory of Consumer Behavior
Numerical Example:
Utility-Maximizing Combination of Products
A and B Obtainable with an Income of $10
(1)
Unit of
Product
(2)
Product A:
Price = $1
(b)
Marginal
(a)
Marginal
Utility
Utility,
Per Dollar
Utils
(MU/Price)
(3)
Product B:
Price = $2
(b)
Marginal
(a)
Marginal
Utility
Utility,
Per Dollar
Utils
(MU/Price)
First
10
10
24
12
Second
8
8
20
10
Third
7
7
18
9
Again,
Compare
Per6 Dollar -16
MU/Price8
Fourth
6
Choose
the5Highest5
Fifth
12
6
Buy
Has
Sixth One of 4Each – Budget
4
6 $5 Left
3
Proceed
to 3Next Item
Seventh
3
4
2
Theory of Consumer Behavior
Numerical Example:
Utility-Maximizing Combination of Products
A and B Obtainable with an Income of $10
(1)
Unit of
Product
(2)
Product A:
Price = $1
(b)
Marginal
(a)
Marginal
Utility
Utility,
Per Dollar
Utils
(MU/Price)
(3)
Product B:
Price = $2
(b)
Marginal
(a)
Marginal
Utility
Utility,
Per Dollar
Utils
(MU/Price)
First
10
10
Second
8
8
Third
7
7
Fourth
6
6
Again,
Compare
Per5 Dollar
Fifth
5
Buy
B – 4Budget
Sixth One More
4
Proceed
to 3Next Item
Seventh
3
24
12
20
10
18
9
16
8
-12
MU/Price6
Has
6 $3 Left
3
4
2
Theory of Consumer Behavior
Numerical Example:
Utility-Maximizing Combination of Products
A and B Obtainable with an Income of $10
(1)
Unit of
Product
(2)
Product A:
Price = $1
(b)
Marginal
(a)
Marginal
Utility
Utility,
Per Dollar
Utils
(MU/Price)
(3)
Product B:
Price = $2
(b)
Marginal
(a)
Marginal
Utility
Utility,
Per Dollar
Utils
(MU/Price)
First
10
10
24
12
Second
8
8
20
10
Third
7
7
18
9
Fourth
6
6
16
8
Fifth
5
5
12
6
Again,
Compare
Per4 Dollar - MU/Price
Sixth
4
6
3
Buy
One of 3Each – 3Budget Exhausted
Seventh
4
2
Theory of Consumer Behavior
Numerical Example:
Utility-Maximizing Combination of Products
A and B Obtainable with an Income of $10
(1)
Unit of
Product
(2)
Product A:
Price = $1
(b)
Marginal
(a)
Marginal
Utility
Utility,
Per Dollar
Utils
(MU/Price)
(3)
Product B:
Price = $2
(b)
Marginal
(a)
Marginal
Utility
Utility,
Per Dollar
Utils
(MU/Price)
First
10
10
24
12
Second
8
8
20
10
Third
7
7
18
9
Fourth
6
6
16
8
Fifth
5
12
6
Final
Result
– At 5These Prices,
Sixth
4
4
6
3
Purchase
2 of Item
Seventh
3
3 A and 44 of B 2
Theory of Consumer Behavior
Algebraic Restatement:
MU of Product A
Price of A
8 Utils
$1
=
=
MU of Product B
Price of B
16 Utils
$2
Optimum Achieved - Money Income
is Allocated so that the Last Dollar
Spent on Each Product Yields the
Same Extra or Marginal Utility
Deriving the Demand Curve
Same Numeric Example:
Price Per Quantity
Unit of B Demanded
$2
4
1
6
Price of Product B
2
1
Income Effects
DB
0
Substitution Effects
4
6
Quantity Demanded of B
Applications and Extensions
• DVDs and DVD Players
• The Diamond-Water
Paradox
• The Value of Time
• Medical Care Purchases
• Cash and Noncash Gifts
Indifference Curve Analysis
• Budget Line (Constraint)
–Income Changes
–Price Changes
12
Total
(Price = $1.50)
(Price = $1)
Expenditure
8
6
4
2
0
0
3
6
9
12
$12
12
12
12
12
10
Quantity of A
Units of A Units of B
Income = $12
PA = $1.50
8
(Unattainable)
6
Income = $12
PB = $1
4
2
0
(Attainable)
2
4
6
8
10
12
Quantity of B
Return to Chapter 19
Indifference Curve Analysis
• What is Preferred
– Downsloping
– Convex to Origin
– Marginal Rate of Substitution
(MRS)
12
j
j
12
2
k
6
4
l
4
6
m
3
8
10
Quantity of A
Combination Units of A Units of B
8
k
6
l
4
m
2
0
I
2
4
6
8
10
12
Quantity of B
Return to Chapter 19
Indifference Curve Analysis
• The Indifference Map
• Equilibrium Position at Tangency
12
10
Quantity of A
MRS =
8
6
W
X
4
PB
PA
Preferred –
But Requires
More Income
I4
2
0
I3
I1
2
4
6
8
Quantity of B
10
I2
12
Return to Chapter 19
Derivation of the Demand Curve
• Measurement of Utility
Quantity of A
12
10
Marginal Utility
of A
8
Price of A
6
X
4
2
I2
Price of B
0
2
4
6
8
10
Quantity of B
12
$1.50
1.00
.50
DB
1 2 3 4 5 6 7 8 9 1011 12
Quantity of B
I3
=
Marginal Utility
of B
Price of B
At $1 Price for B,
6 Units are Purchased
Record the Results
As Price of B Increases
to $1.50,
Only 3 Units of B are
Bought
Record the Results
Connect the Points to
Create the Demand
Curve
Return to Chapter 19