ECON 251 1st Edition Lecture 12Outline of Last Lecture I. TermsII. Consumer ChoiceIII. General Budget LineIV. Changes in the Budget LineV. PreferencesOutline of Current Lecture I. Paradox of ValuesII. Changes in Consumer EquilibriumIII. Indifference CurveIV. Characteristics of IC’sCurrent LectureI. Paradox of ValuesWhich is more valuable, water or diamonds? It depends on your frame of reference!MUd = marginal utility of diamondsMUw = marginal utility of waterPd = price of diamondsPw = price of water(MUd / Pd) = (MUw / Pw)If Pd > Pw  MUd > MUw(One more diamond raises utility by more than one more unit of water raises the utility)These notes represent a detailed interpretation of the professor’s lecture. GradeBuddy is best used as a supplement to your own notes, not as a substitute.P*d = MUd (directly related to its value)If you hold back the supply, it increases the value, which increases the price.The CS = the total utility of diamondsP*w = MUw (MUw of the last unit of water bought)CS = total utility of waterBecause CSw > CSd (area) means that OVERALL water has more value.II. Changes in Consumer EquilibriumLooking at a change in price.Income = $20/dayPrice doughnuts = $1  $2Price of hot chocolate = $2Qh Uh MU MU/PHow eachdollar isspentQd Ud MU MU/PHow eachdollar isspent0 0 - - 0 0 1 -1 20 20 10 5,6 1 30 30 15 1,22 35 15 7.5 7,8 2 50 20 10 3,43 49 14 7 11,12 3 65 15 7.5 9,104 60 11 5.5 13,14 4 75 10 5 15,165 70 10 5 17,18 5 80 5 2.56 79 9 4.5 19,20 6 84 4 27 86 7 3.5 7 87 3 1.58 89 3 1.5 8 89 2 19 91 2 1 9 90 1 0.510 92 1 0.5 10 89 -1 -0.5MU = ΔU/ΔQ(6, $1)  (4, $2)(7, $2)  (6, $2)Inc Pd  Dec D for hot chocolate Complements in consumptionIII. Indifference Curve=combinations of goods that generate the same level of utilityIV. Characteristics of IC’s1. Negative slope2. Magnitude of slope reflects how much Y you’re willing to give up for one more unit of X  marginal rate of substitution3. Slope gets flatter as X increases MRS falls as X increasesReach highest IC possible given our budgetIncome = $20Pd = $1Ph = $2Income = QdPd + QhPh20 = Qd + 2QhSlope = -1/2 = -Pd/PhAt point one, IC is steeper than BLMRS > (Pd/Ph) + ½You’re willing to give up more than ½ cup hot chocolate to get one doughnutincrease in QdAt point two, IC is flatter than BLMRS < ½You’re not willing to give up ½ cup for one more doughnutDec Qd and Inc QhAt point three, BL and IC have the same slope on the highest IC you can get toMRS =