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Project Report on Consumer Equilibrium Through Indifference Curve

Submitted By

Umang Harsh

Under the provision of

Dr. Amita Vijay Mam

Faculty of Management

Faculty of Management

Poddar Management and Technical Campus

Jaipur
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Acknowledgement

The project report Consumer Equilibrium Through Indifference Curve is an outcome of

guidance, moral support and devotion on me through my work. For this let me acknowledge
and express my performance sense of gratitude and thanks to everybody who have been
source of inspiration during the project.

I would like to express my special thanks of gratitude to my teacher De. Amita Vijay Mam as
well as our Head of department Dr. Sunil Kakkar sir who gave me the golden opportunity to
do this wonderful project on the topic Consumer Equilibrium Through Indifference Curve
which also helped me in doing a lot of research and came to know about so many things. I am
really thankful to them.

Secondly I would also like to thank my parents and friends who helped me a lot in finalizing
this project within the limited time frame.

Umang Harsh
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Table of Content

S.NO. Topic Page Number

Chapter 1 Introduction 4-5

Chapter 2 Indifference curve schedule 6

Chapter 3 Indifference curve 7

Chapter 4 Indifference Map 8

Chapter 5 Marginal rate of substitution 9

Chapter 6 Price or budget line 10

Chapter 7 Approaches to consumer 11

behavior And Utility

Chapter 8 Concept of utility 12

Chapter 9 Marginal utility analysis 13

Chapter 10 Law of diminishing marginal 14-16

utility

Chapter 11 Marshallian’s consumer 17-18

surplus

Chapter 12 Conclusion 19

Chapter 13 References 20
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Introduction

Meaning of Consumer Equilibrium:

Consumer equilibrium will be reached when consumer is deriving maximum possible
satisfaction from the goods and is in no position to rearrange his purchase of goods.

The indifference map is a combination with the budget line allows us to determine the one
combination of goods and services that the consumer wants and is able to purchase. This is
consumer equilibrium.

 PL – Budget Line.
 Points R,S,T,Q,H all lie on the budget line but Q is Equilibrium point.
 At the tangency point Q, the slopes of the PriceLine (PL) and Indifference Curve IC3
are equal.
 Slope of Indifference Curve shows MRS of X and Y (MRSxy)
 At Equilibrium point Q
MRSxy = MUx/ MUy = Px/Py
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Meaning of Indifference Curve

 A single indifference curve shows the different curve combinations of X and Y that
yield Equal Satisfaction to the Consumer - Leftwitch
 An Indifference curve is a combination of goods, each of which yield the same level
of total utility to which consumer is indifferent- Ferguson.

Assumptions to Indifference Curve Analysis

 Rationality of Consumer =

-The consumer is rational & aims at maximising his total Satisfaction.

 Ordinal Utility =
-Utility can be expressed Ordinally i.e. Consumer is able to tell only
Order of his preferences.
 No satiety =

-Consumer is not oversupplied with goods in question.

 Transitivity of choice=

-Means that consumer prefer A to B & B to C, he must prefer A to C.

 Consistency of choice =
-Means that if a consumer prefers A to B in one period, he will not prefer
B to A in another period or treat them as equal.
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Indifference Curve Schedule

 An indifference curve schedule refers to a schedule that

indicates different combination of two commodities which yield
equal satisfaction.

Combination of Apples Orange

apples and oranges

A 1+ 10

B 2+ 7

C 3+ 5

D 4+ 4
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Indifference Curve

 Indifference curve is the diagrammatic representation of indifference schedule.

 IC is an indifference curve.
 It is a line that shows all possible combinations of two goods between which a person
is indifferent.
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Indifference Map
 An indifference map represents a group of indifference curve
each of which expresses a given level of satisfaction.
 If an indifference curve shifts to right , the level of satisfaction
goes on increasing.
 From the point of view of satisfaction :-
IC3>IC2>IC1.
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Marginal Rate Of Substitution

 The rate at which an individual must give up “GOOD A” in order to obtain one more
unit of “GOOD B”, while keeping their overall utility (Satisfaction) constant.
 The MRS is calculated between two goods placed on an indifference curve, which
displays a frontier of equal utility for each combination of “Good A” and “Good B”.
 MRS keeps on declining since consumer has more & more units of one good, he
gives up less units of goods.

Properties of Indifference Curve

 An Indifference curve has a negative slope i.e. it slopes downwards.

 Indifference curve are always convex to the Origin.
 Two indifference curve never intersect or become tangent to each other.
 Higher indifference curve represents higher level of satisfaction
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Price Line or Budget Line

 The Budget line shows all those combinations of two goods which consumer can buy
spending his given money income on two goods at their given price.
 Remember, that the amount of good that a person can buy will depend upon their
income and the price of goods.

 Point above the budget line or Price line, will be beyond the reach of consumer.
 Point below the budget line or Price line, will show the under spending of consumer.
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Approaches to consumer behaviour

 CARDINAL UTILITY = Propounded by Marshall and also known as Marshalling

approach
 ORDINAL UTILITY = Propounded by hicks & Allen also known as Indifference
curve analysis.

Utility
 Utility is synonym with “pleasure”, “Satisfaction”& a sense of fulfilment of desire.
 Utility -> “Want Satisfying Power” of a commodity.
 Utility is a psychological phenomenon.
 Utility refers to abstract quality whereby an object serves our purpose. –JEVONS.
 Utility is the quality of goods to satisfy a want.- HIBON
 Utility is the quality in commodity that makes individual want to buy them. –Mrs.
Robinson.

Features of Utility
 Utility is ethically neutral –
o Utility has nothing to do with ethics. Use of liquor may not be good from the
moral point of view, but as the intoxicants satisfy wants of drunkards, they
have utility.

 Utility is not essentially useful –

o A commodity having utility need not be useful. For example, liquor is not
useful, but it satisfies the want of an addict thus have utility for him.

 Utility is Relative –
o Utility of commodity never remains the same. It varies with time, place and
person. For example, cooler has utility in summer but not during winters.

 Utility is subjective –
o It deals with mental satisfaction of man. For example, Liquor has utility for
a Drunkard but for teetotaler, it has no utility.
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Concepts Of Utility
1) Initial utility
o The utility derived from consumptions of 1st unit of commodity.

2) Total utility
o The aggregate of utilities obtained from the consumption of different units
of commodity.
o TUn = U1 + U2 + U3 +…… Un.

3) Marginal Utility
o Change in total utility resulting from the change in consumption..
o MU = TUn + TUn-1

Types Of Marginal Utility

1) Positive marginal utility = with consumption of an additional unit of a commodity,

total utility increases.
2) Zero marginal utility = with consumption of an additional unit of a commodity, total
utility remains same.
3) Negative marginal utility =with consumption of an additional unit of a commodity,
total utility decreases.
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Marginal Utility Analysis

 Formulated by Alfred Marshall.
 Theory explains how a consumer spends his income on different goods and services
so as to attain maximum satisfaction.
 Based on certain assumptions.

Assumptions to MUA

1) Cardinal measurability of utility =utility is measurable and quantifiable entity.

Money is the measuring rod of utility i.e. the amount of money which a person is
prepared to pay for a unit of goods rather than go without it is a measure of utility
derived.

2) Constancy of the marginal utility of money = MU of money remains constant. Not

a realistic. But has been made in order to facilitate the measurement of utility of
commodity in terms of money.

3) Hypothesis of independent utility = theory ignores complementarity between goods.

Total utility derived from whole collection of goods purchased is the sum total of
separates utilities of goods.
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Law of Diminishing marginal utility

 The additional benefit which a person derives from a given increase in stock
of a thing diminishes with every increase in the stock that he already has.-
Marshall
 As an amount consumed of a good increases, the marginal utility of goods
tends to decreases. –Samuelson

Assumption to law of Diminishing Marginal Utility

 Other things being equal.

o Utility can be measured in the cardinal number system.
o Marginal utility of money remains constant.
o Marginal utility of every commodity is independent.
o Every unit of commodity being used is same in size and quality.
o There is continuous consumption of commodity.
o Suitable quantity of the commodity is consumed.
o There is no change in income, taste, character, fashion and habits of the
consumer.
o There is no change in the price of the commodity and its substitutes.
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Explanation
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Limitations of law

 Utility considered as cardinally measurable is untenable as utility is a subjective

concept.
 Unrealistic assumptions regarding marginal utility of money being constant. Money is
subject to change.
 No empirical verification.
 The derivation of law is based on assumption of ceteris paribus which is unrealistic.
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Marshallian’s Consumer’s Surplus

 Marshall defined consumer surplus as “ the excess of the price which a consumer
would be willing to pay rather than go without the thing, over that which he actually
does pay.”
 Consumer’s surplus = what a consumer is willing to pay – what he actually pays.
 Derived from the law of diminishing marginal utility.

Assumptions to Marshall consumer’s surplus

 Perfect competitions prevails in market.

 Consumer purchases only one commodity.
 Price of the commodity is fixed.
 Marginal utility of money is constant.
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Limitation of Marshallian consumer’s surplus

 Consumer measure cant be measured precisely because it is difficult to measure the

marginal utilities of different units of a commodity consumed by the customer.
 In the case of necessaries, the marginal utilities of earlier units are infinitely large.in
such cases, consumer’s surplus is always infinite.
 It is derived from a commodity which is affected by the availability of substitutes.
 No simple rule for deriving the utility scale of article of distinction.
 Marginal utility of money is assumed to be constant which is unrealistic.
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Conclusion

The equilibrium position of the consumer is at the point where the Consumption Possibility
Line is the tangent of an Indifference Curve. Consumer equilibrium refers to a situation in
which the consumer obtains the maximum total utility with the consumer's budget.

In Economics, equilibrium analysis is of two kinds: Partial Equilibrium analysis and General
Equilibrium analysis. In the partial equilibrium analysis, we focus our attention on individual
economic units i.e. the consumer, the firm, an industry . or a particular sector of an economy.
It takes into account a number of variables for intensive study assuming that the economic
process is not disturbed by influences external to the part of the economy we are studying. To
use Schneider’s words “The surrounding world is regarded as fixed or frozen over the. period
for which it is being studied. This type of theory discusses the determination of prices and
outputs of particular commodities assuming those of others remaining unchanged. In other
words, in partial equilibrium analysis, we isolate a particular type of activity for special
investigation in great depth even though we know that there is, in fact, much interdependence
between that under. investigation and that held aside.
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References

 https://edurev.in/question/771509/Conclusion-of-Consumer-equilibrium-
 https://www.toppr.com/guides/business-economics/theory-of-consumer-
behavior/indifference-curve/
 https://edurev.in/question/771509/Conclusion-of-Consumer-equilibrium-
 https://edurev.in/studytube/Consumer-s-Equilibrium-Through-Indifference-
Curve-/17caba6b-8948-43d7-a9b5-5672a75697a5_t