ECON-1203 Chapter : ECONch6
Economics
Chapter 6- Consumer Behavior
Marginal Utility and Consumer Choice
ā¢ Utility- the total satisfaction that consumers derive from the good and
services that they consume.
ā¢ Consumers are motivated to maximize their utility
ā¢ Total Utility- the full satisfaction resulting from the consumption of that
product by a consumer.
ā¢ Marginal utility- additional satisfaction of resulting from consuming one
more unit of that product.
EXAMPLE: The total utility of consuming five sodas per day is the total
satisfaction that those five sodas provide. The marginal utility of the fifth
soda consumed is the addition satisfaction proved by the consumption of
that soda.
Diminishing Marginal Utility
ā¢ Law of diminishing marginal utility- the utility that any consumer derives
from successive units of a particular product consumed over some period of
time diminished as total consumption of the product increases.
ā¢ Page 119 for example.
Utility Schedules and Graphs
ā¢ Page 120
Maximizing Utility
ā¢ Consumers seek to maximize their total utility subject to the constraints they
face- in particular, their income and the market prices of various products.
ā¢ Utility Maximizing Consumer- allocated expenditures so that the utility
obtained from the last dollar spent on each product is equal. Ratio of
marginal utility to price must be same for all goods.
ā¢ Marginal Utility Theory- A consumer demands each good up to the point at
which the marginal utility per dollar spent on it is the same as the marginal
utility per dollar spend on every other good. When this condition is met for
all goods, the consumer cannot increase utility further by reallocation
expenditure. That is, the utility is maximized.
ā¢ Page 121 and 122 for Examples and Equations.
ā¢ Consumers who follow the rule of 6.2, relative price and relative ability, have
a negatively sloped demand curve for goods and services.
The Consumerās Demand Curve
ā¢ Pg 123 equation.
ā¢ The hypothesis of diminishing marginal utility tells us that as she buys fewer
sodas, the marginal utility of soda will rise and thereby increase the ratio on
the left side.
ā¢ A rise in the price of a product (with all other determinants of demand held
constant) leads each consumer to reduce the quantity demanded of the
product.
ā¢ The theory of consumer behavior predicts a negatively sloped market
demand curve in addition to a negatively sloped demand curved for each
individual consumer.
Income and Substitution Effects of Price Changes
ā¢ Tony likes ice cream. A fall in the price of ice cream process an incentive to
buy more ice cream (and less of other things) because eating ice cream is
cheaper way to satisfy his cravings. A reduction in the price of ice cream
means a fall in the relative price of ice creamāit leads to substitute away
from other products toward ice cream.
ā¢ Because price has fallen, Tony has more purchasing power.
ā¢ The price fall generates an increase in Tonyās real income- the quantity of
good and services that can be purchases with a given amount of money
income.
ā¢ This rise in income provides an incentive to buy more of all normal goods.
(when income rises, consumers buy more of normal good and less of all
inferior goods).
Substitution Effect
ā¢ If Tonyās uncle sends him a monthly allowance for ice cream, when the price
of ice ream falls, the allowance is reduced so that Tony can afford to buy just
as much ice cream. This means his purchasing power is unchanged.
ā¢ If the behavior remains unchanged, he will no longer me maximizing his
utility.
ā¢ To maximize his utility, Tony must increase his consumption (reduce his
marginal utility) of ice cream, and reduce his consumption of other goods.
ā¢ Substitution Effect- increases the quantity demanded of a good whose price
has fallen and reduces the quantity demanded of a good price has risen.
Income Effect
ā¢ If Tony returns his allowance to the original amount, Tony will increase his
consumption of ice cream-normal good.
ā¢ The income effect leads consumers to buy more of a product whose price has
fallen, provided that the product is a normal good.
ā¢ Example 125.
