Chapter 6- The Economics of Collective Decision MakingChapter 7- Consumer Choice and ElasticityChapter 6- The Economics of Collective Decision MakingI. The Size and Growth of the US Governmenta. The 3 major categories of federal spendingi. Healthcareii. Social securityiii. National defenseb. Transfer Payments: transfers of income from some individual (who pays the taxes) to others (who receive government payments)i. Example: social security, unemployment benefits and welfareII. Similarities and Differences between Governments and Marketsa. Competition is present in bothi. Example: politicians compete for office; employees compete for promotions and higher pay ratesb. Scarcity and Opportunity cost present in bothi. If resources are used to achieve one goal, then they are not present to achieve another.ii.Chapter 7- Consumer Choice and ElasticityI. Fundamentals of Consumer Choicea. Basics of Consumer Choicei. Limited income necessitates choice1. Scarcity limited income2. When more of one good/service is bought then ii. Consumers make decisions purposefully1. If 2 products are the same in price, the consumer will buy theone with more benefit2. If 2 products yield the same benefit, then the consumer will buy the cheaper oneiii. One good can be substituted for another1. Utility- satisfaction 2. Example: either a hamburger or a taco can satisfy hungrya. High water prices in California have made residents substitute flower gardens for cactus onesiv. Consumers must make decisions with perfect information, but knowledge and past experience help1. Time and effort used to find information is directly related tothe value derived from it2. Consumers spend more time and money to inform themselves about “big ticket” items3. Experience helps make decisionsv. The law of diminishing marginal utility applies: as the rate of consumption increases, the marginal utility gained from consuming additional units of a good will decline1. Law of diminishing marginal utility: the basic economic principle that as the consumption of a product increases, themarginal utility derived from consuming more of it will decline2. Marginal utility: the additional utility derived from consuming as additional unit of a good3. Example: even though you might like ice cream, the more youeat, the more you hate ita. In class example, sweaters that your gave you for holidays4. No matter how much you like a product, you won’t spend your entire budge on itII. Marginal Utility, Consumer Choice, & the Demand Curve of an Individuala. The height of an individual’s demand curve at any specific unit is equal to the maximum price the consumer would be willing to pay for iti. Marginal benefit: the max price b. Because a consumer’s willingness to pay for a unit of a good is directly related to the utility derived from consuming the unit, the law of diminishing marginalutility implied that a consumer’s marginal benefit, and thus the height of the demand curve, falls as the quantity consumed increases.i. Marginal utility will fall as quantity increasesc. At any given price, consumers will purchase all units of a good for which their maximum willingness to pay (marginal benefit) is greater than the pricei. MB = Pii. When a consumer has purchased all units to the point at which MB = P total consumer surplus is maxedd. Consumer Equilibrium with many Goodsi. Consumer choice is a constant comparison of value to relative price1. Example: seeing a shirt that you like and then seeing that it was $50. You say “Wow, that’s too much!” saying “I like the shirt, but not as much as the $50 worth of other goods that I would have to give up for it.”ii. the consumer will maximize his/her utility by ensuring that the last dollar spent on each good purchased yields an equal degree of marginal utility1. Example: you’re at a restaurant eating wings and drinking Coke. Assume a large coke and wings cost $2. When you finish your Coke there are a lot of wings left. You’ve eaten so many that the rest do not look attractive. You could have gotten more utility with fewer wings and another coke, but too late. In this condition, marginal utility of wings is lower than the marginal utility of a Coke. If you purchased fewer wings and more Coke your utility would be higher2. You maximize your utility and get the most “bang for your buck” from your budget when you make the two ratios (the two marginal utilities) equal to each othere. Price Changes and Consumer Choice i. The demand curve shows the amount of a product that consumers are willing to buy at alternative prices during a specific time period. The law od demand states that the amount ofa product bought is inversely related to its priceii. As the price of a product declines, the lower opportunity cost will induce consumers to buy more of itiii. Substitution effect: that part of an increase in amount consumed that is the result of a good being cheaper in relation to other goods because of a reduction in price.iv. If a consumer’s money income is unchanged, a reduction in the price of a product they consume will increase his or her real income1. Example: if your rent declined by $100 per month, that would allow you to buy more of many other goodsv. Income effect: the part of an increase in amount consumed that is the result of the consumer’s real income being expanded by a reduction in the price of a good1. Response: buying more of the cheaper product and other product because they can better afford to do so.f. Time Costs and Consumer Choicei. “time is money”ii. A lower time cost will make a product more attractive1. Example: patients in a dentist office are willing to pay an extra $5 per minute saved to shorten their time spend in waiting roomsiii. Time costs differ among individualsg. Market demand Reflect the Demand of Individual Consumersi. The market demand schedule is the relationship between the market price of a good and the amount demanded by all individuals in the market area. Because individual consumers purchase less at higher prices, the amount demanded in a marketarea as a total is also inversely related to its price.ii. the market demand curve represents the collective choices of the individual consumersIII. Elasticity of Demanda. Price Elasticity of Demand: indicated how responsive consumers are to a change in a product’s pricei.Price elasticity of demand=percentage change∈quantity demandedpercentagechange∈ price1. Elasticity coefficient ii. A
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