Transcript ME11_Ch04
MANAGERIAL
th
ECONOMICS 11 Edition
By
Mark Hirschey
Consumer Demand
Chapter 4
Chapter 4
OVERVIEW
Utility Theory
Indifference Curves
Budget Constraints
Individual Demand
Demand Curves and Consumer Surplus
Consumer Choice
Optimal Consumption
Chapter 4
KEY CONCEPTS
utility
nonsatiation principle
indifference
ordinal utility
cardinal utility
utility function
utils
market baskets
marginal utility
law of diminishing marginal utility
indifference curves
substitutes
complements
perfect substitutes
perfect complements
budget constraint
income effect
substitution effect
price-consumption curve
income-consumption curve
Engle curve
normal goods
inferior goods
consumer surplus
two-part pricing
bundle pricing
optimal market basket
revealed preference
marginal rate of substitution
consumption path
Utility Theory
Assumptions About Consumer Preferences
Utility Functions
Descriptive statement relates well-being and
consumption.
Marginal Utility
More is better.
Consumers can rank preferences.
Consumers ran-order desirability of products.
Added benefit is focus of consumers.
Law of Diminishing Marginal Utility
Marginal utility eventually declines for everything.
Indifference Curves
Basic Characteristics of Indifference
Curves
Higher indifference curves are better.
Indifference curves do not intersect.
Indifference curves slope downward.
Indifference curves are concave to origin.
Perfect Substitutes and Perfect
Complements
Perfect substitutes satisfy the same need.
Perfect complements are consumed together.
Budget Constraints
Basic Characteristics of Budget Constraints
Effects of Changing Income and Changing
Prices
Shows affordable combinations of X and Y.
Slope of –PX/PY reflects relative prices.
Budget increase causes parallel outward shift.
Budget decrease causes parallel inward shift.
Income and Substitution Effects
Income (substitution) effect is change in
overall (relative) consumption.
Individual Demand
Price-consumption Curve
Income-consumption Curve
Shows how consumption is affected by price changes
(movement along demand curve).
Shows how consumption is affected by income
changes (shifts from one demand curve to another).
Engle Curves
Plot between income and quantity consumed.
Consumption of normal goods rises with income.
Consumption of inferior goods falls with income (rare).
Demand Curves and Consumer
Surplus
Graphing the Demand Curve
Consumer Surplus
Value received above amount paid.
Consumer Surplus and Two-Part Pricing: An
Illustration
Demand curves always slope downward.
Membership fees and user fees extract consumer
surplus for the seller.
Consumer Surplus and Bundle Pricing
Bundle pricing extracts consumer surplus for sellers.
Consumer Choice
Marginal Utility and Consumer Choice
Optimal consumption maximizes utility.
Optimal consumption reflects marginal utility
(benefits) and marginal costs.
Revealed Preference
Documented desire.
Buyer decisions can be used to infer
consumer preferences.
Optimal Consumption
Marginal Rate of Substitution (MRS)
MRSXY = -MUX/MUY and equals indifference
curve slope.
MRSXY shows tradeoff in the amount of X and
Y consumed, holding utility constant.
MRSXY diminishes as amount of substitution of
X for Y increases.
Utility Maximization
Optimality requires PX/PY = MUX/MUY.
Optimality requires MUX/PX = MUY/PY.