Chapter 7 Consumer Choice and Elasticity 6 Learning Goals 1 List the key factors influencing consumer behavior Chapter heading Fundamentals of Consumer Choice Key terms Marginal utility the additional utility or satisfaction derived from consuming an additional unit of a good Law of diminishing marginal utility the basic economic principle that as the consumption of a product increases the marginal utility derived from consuming more of it 9per unit of time will eventually decline Consumers decide what to buy and how much to buy based upon a lot of different factors that vary over time and circumstance The consumer must decide how to allocate scarce resources to obtain the largest benefit List five key factors that dictate consumer behavior 1 Limited income necessitates choice 2 Consumers make decisions purposefully 3 One good can be substituted for another 4 Consumers must make decisions without perfect information but knowledge and past experience will help 5 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 decline 2 Apply the concept of marginal utility to determine how a demand curve is derived Chapter heading Marginal Utility Consumer Choice and the Demand Curve of an Individual Key terms Marginal benefit the maximum price a consumer will be willing to pay for an additional unit of a product It is the dollar value of the consumer s marginal utility from the additional unit and therefore it falls as consumption increases Substitution effect that part of an increase decrease in amount consumed that is the result of a good being cheaper more expensive in relation to other goods because of a reduction increase in price Income effect that part of an increase decrease in amount consumed that is the result of the consumer s real income being expanded contracted by a reduction rise in the price of a good A consumer s willingness to pay for a good is directly linked to the additional benefit received Since the consumer s marginal benefit falls as more units of the good are obtained the willingness to pay falls Hence the demand curve is downward sloping The substitution and income effects result from a change in the price of a good Together they reinforce the downward sloping shape of the demand curve 3 Define calculate and graph elasticity of demand Chapter heading Elasticity of Demand Key term Price elasticity of demand the percentage change in the quantity of a product demanded divided by the percentage change in the price that caused the change in quantity The price elasticity of demand indicates how responsive consumers are to a change in product s price Write the formula for price elasticity of demand Price elasticity of demand percentage change in quantity demanded percentage change in price When demand is inelastic which is greater the change in quantity demanded or the change in price Change in price When demand is elastic which is greater the change in quantity demanded or the change in price Quantity demanded Draw two demand curves For one draw an inelastic demand for the other draw an elastic demand Two primary factors determine elasticity of demand 1 The availability of substitutes 2 Product s share of the consumer s total budget 4 Relate demand elasticity to total revenue Chapter heading How Demand Elasticity and Price Changes Affect Total Expenditures or Revenues on a Product Complete the following sentences When demand is inelastic and price rises total revenue will rise When demand is inelastic and price falls total revenue will fall When demand is elastic and price rises total revenue will fall When demand is elastic and price falls total revenue will rise When demand is inelastic which part of the equation is larger the change in quantity demanded or the change in price Change in price When demand is elastic which part of the equation is larger the change in quantity demanded or the change in price Quantity demanded 5 Define and calculate income elasticity Chapter heading Income Elasticity Key terms Income elasticity the percentage change in the quantity of a product demanded divded by the percentage change in consumer income that caused the change in quantity demanded It measures the responsiveness of the demand for a good to consumer s change in income Normal good a good that has positive income elasticity so that as consumer income rises demand for the good rises too Inferior good a good that has a negative income elasticity so that as consumer income rises the demand for the good falls Write the formula for income elasticity Income elasticity percentage change in quantity demanded percentage change in income Identify two goods that are normal 1 Private education 2 New automobiles Identify two goods that are inferior 1 Low quality meat cuts 2 Bus travel 6 Define and graph elasticity of supply Chapter heading Price Elasticity of Supply Key term Price elasticity of supply the percentage change in quantity supplied divided by the percentage change in the price that caused the change in quantity supplied Draw two supply curves For one draw an inelastic supply for the other draw an elastic supply ECO 2023 Principles of Microeconomics Chapter 8 Costs and the Supply of Goods Note You may skip the first two Chapter headings titled The Organization of the Business Firm and Costs Competition and the Corporation 7 Learning Goals 1 Bring out the role costs play in making economic decisions Chapter heading The Economic Role of Costs Key terms Explicit costs payments by a firm to purchase the services of productive resources Implicit costs the opportunity costs associated with a firm s use of resources that it owns These costs do not involve a direct money payment Examples include wage income and interest forgone by the owner of a firm who also provides labor services and equity capital to the firm Total cost the costs both explicit and implicit of all the resources used by the firm Total cost includes a normal rate of return for the firm s equity capital Opportunity cost of equity capital the rate of return that must be earned by investors to induce them to supply financial capital to the firm Economic profit the difference between the firm s total revenues and its total costs including both the explicit and implicit cost components Normal profit rate zero economic profit providing just the competitive rate of return on the capital and labor of owners An above
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