Household Behavior• Constrained Choice• Income• Wealth• Accumulated total• Existing Prices• Basic Household Decisions• How much to demand (Spending)• How much labor to supply• Now vs Later allocation• Some Terminology• Budget Constraint: • Limits imposed by income, wealth, and existing prices • Example: Pizza slice costs $3 each, Drafts are $1.50, Your budget is $30• Px * X + Py * Y = Income• Where:• Px = Price of commodity x• X = Quantity of x• Py = Price of commodity y• Y = Quantity of y• What if price of drafts drops to $1• Graph pivots out- new graph• What if pizza got more expensive• Real purchasing power will diminish i.e. less pizza• Opportunity Set: • Set of options defined and limited by budget constraint• Underneath and on the line of consumption possibilities• Real Income: • Set of opportunities to purchase real goods and services• Utility:• The satisfaction that a good/service generates• An experiment… Donuts• Marginal Utility:• Additional satisfaction gained by consuming one additional unit• Law of Diminishing Marginal Utility: • the additional satisfaction gained from consuming one additional unit declines as more and more of that item is consumer• Diamond / Water Paradox- Smith• Diamonds: Labor, high price, not very useful• Water: Not much labor, low price, useful• Concludes a labor base approach makes more sense for determining value than a utility base approach• BUT we need to focus on marginal utility…you would rather have more diamond than 1 water• 1 MORE DIAMOND = USEFUL • In Microeconomics… All rational decisions focus on the
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