Consumer ChoiceThe Budget ConstraintFigure 1: The Budget ConstraintChanges in the Budget LineFigure 2a: Changes in the Budget LineFigure 2b: Changes in the Budget LineFigure 2c: Changes in the Budget LinePreferencesRationalityTwo TheoriesMore Is BetterSlide 12Consumer Decisions: The Marginal Utility ApproachUtility and Marginal UtilityTotal Utility and Marginal UtilityFigure 3: Total And Marginal UtilityCombining the Budget Constraint and Preferences (Marginal Utility Approach)Consumer decision makingFigure 4: Consumer Decision MakingMarginal Utility ApproachSlide 21What Happens When Things Change: Changes In IncomeAn increase in incomeFigure 5: Effects of an Increase in IncomeChanges In PriceFigure 6: Deriving the Demand CurveThe Individual’s Demand CurveIncome and Substitution EffectsThe Income EffectSlide 30Combining Substitution and Income EffectNormal GoodsInferior GoodsFigure 7: Income and Substitution EffectsConsumers in MarketsMarket demandFigure 8(a): From Individual To Market DemandFigure 8(b): From Individual To Market DemandConsumer Theory in Perspective: Extensions of the ModelChallenges to the ModelBehavioral EconomicsKahnemanImproving EducationSlide 44Figure 9: Time AllocationSlide 46Slide 47Slide 48Hall & Leiberman; Economics: Principles And Applications, 2004 1Consumer Choice•You are constantly making economic decisions•At the highest level of generality, we are all very much alike–Come up against the same constraints•A given income or wealth•A given time to enjoy it all•The theory of individual decision making is called “consumer theory”Hall & Leiberman; Economics: Principles And Applications, 2004 2The Budget Constraint•A consumer’s budget constraint identifies which combinations of goods and services the consumer can afford with a given budget•Budget line is the graphical representation of a budget constraint–The price of one good relative to the price of another–The slope of the budget line indicates the spending trade-off between one good and another•Amount of one good, that must be sacrificed in order to buy more of another good•If PY is the price of the good on the vertical axis, then the slope of the budget line is –PX / PYHall & Leiberman; Economics: Principles And Applications, 2004 3Figure 1: The Budget ConstraintABGHNumber of Concerts per MonthNumber of Movies per Month15129631 2 3 4 5With $150 per month, Max can afford 15 movies and no concerts, . . .12 movies and 1 concert or any other combination on the budget line.Points below the line are also affordable.But not points above the line.DFECHall & Leiberman; Economics: Principles And Applications, 2004 4Changes in the Budget Line•Changes in income –Increase in income will shift the budget line ____(and ____ward)–A decrease in income will shift the budget line ____ward (and _____ward)–Shifts are parallel•Changes in income do not affect the budget line’s slope•Changes in price–In each case, one of the budget line’s intercepts will change, as well as its slope•When the price of a good changes, the budget line rotates–Both its slope and one of its intercepts will changeHall & Leiberman; Economics: Principles And Applications, 2004 5Figure 2a: Changes in the Budget Line1. An increase in income shifts the budget line rightward, with no change in slope.(a)Number of Concerts per Month51515Number of Movies per Month3010Hall & Leiberman; Economics: Principles And Applications, 2004 6Figure 2b: Changes in the Budget Line2. A decrease in the price of movies rotates the budget line upward.(b)Number of Concerts per Month51515Number of Movies per Month30Hall & Leiberman; Economics: Principles And Applications, 2004 7Figure 2c: Changes in the Budget Line3. while a decrease in the price of concerts rotates it rightward.Number of Concerts per Month51515Number of Movies per Month30(c)Hall & Leiberman; Economics: Principles And Applications, 2004 8Preferences•How can we possibly speak systematically about people’s preferences?–People are different•Despite differences in preferences, can find some important common denominators–In our theory of consumer choice, we will focus on these common denominatorsHall & Leiberman; Economics: Principles And Applications, 2004 9Rationality•One common denominator–People have preferences–We assume that you can look at two alternatives and state either that you prefer one to the other or•That you are entirely indifferent between the two—you value them equally•Another common denominator–Preferences are logically consistent, or transitive•When a consumer can make choices, and is logically consistent, we say that she has rational preferences•Rationality is a matter of how you make your choices, and not what choices you make–What matters is that you make logically consistent choicesHall & Leiberman; Economics: Principles And Applications, 2004 10Two Theories•Theories of consumer decision making–Marginal utility–Indifference curve•Both assume that preferences are rational•Both assume that consumer would be better off with more of any good•Both theories come to same general conclusions about consumer behavior–However, to arrive at those conclusions each theory takes a different road•Our goal is to describe and predict how consumers are likely to behave in markets–Rather than describe what actually goes on in their mindsHall & Leiberman; Economics: Principles And Applications, 2004 11More Is Better•We generally feel that more is better•The model of consumer choice in this chapter is designed for preferences that satisfy the “more is better” condition–It would have to be modified to take account of exceptions•The consumer will always choose a point on the budget line–Rather than a point below itHall & Leiberman; Economics: Principles And Applications, 2004 12Two Theories•Theories of consumer decision making–Marginal utility–Indifference curve•Both assume that preferences are rational•Both assume that consumer would be better off with more of any good•Both theories come to same conclusions about consumer behavior•Our goal is to describe and predict how consumers are likely to behave in markets–Rather than describe what actually goes on in their mindsHall & Leiberman; Economics: Principles And Applications, 2004 13Consumer Decisions: The Marginal Utility Approach•What is utility?•Assumption: any decision maker tries to make the
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