Chapter 4 – Theory of Consumer Behavior.pptVIP

Chapter 4 – Theory of Consumer Behavior Economics 11 – UPLB Prepared by T.B. Paris, Jr. December 11, 2007 Theory of Consumer Behavior Useful for understanding the demand side of the market. Utility - amount of satisfaction derived from the consumption of a commodity ….measurement units ? utils Utility concepts cardinal utility - assumes that we can assign values for utility, (Jevons, Walras, and Marshall). E.g., derive 100 utils from eating a slice of pizza ordinal utility approach - does not assign values, instead works with a ranking of preferences. (Pareto, Hicks, Slutsky) Total utility and marginal utility Total utility (TU) - the overall level of satisfaction derived from consuming a good or service Marginal utility (MU) additional satisfaction that an individual derives from consuming an additional unit of a good or service. Total utility and marginal utility TU, in general, increases with Q At some point, TU can start falling with Q (see Q = 6) If TU is increasing, MU 0 From Q = 1 onwards, MU is declining ? principle of diminishing marginal utility ? As more and more of a good are consumed, the process of consumption will (at some point) yield smaller and smaller additions to utility Total Utility Curve Marginal Utility Curve Consumer Equilibrium So far, we have assumed that any amount of goods and services are always available for consumption In reality, consumers face constraints (income and prices): Limited consumers income or budget Goods can be obtained at a price Some simplifying assumptions Consumer’s objective: to maximize his/her utility subject to income constraint 2 goods (X, Y) Prices Px, Py are fixed Consumer’s income (I) is given Consumer Equilibrium Marginal utility per peso ? additional utility derived from spending the next peso on the good Consumer Equilibrium Optimizing condition: If? spend more on good X and less of Y Simple Illustration Suppose: X = fishball  Y = siomai Assume: PX = 2 PY = 10 Numerical Illus