Chapter 08 The Theory of Consumer Choice
Chapter 08 The Theory of Consumer Choice
Chapter 08 The Theory of Consumer Choice
8 In this chapter,
look for the answers to these questions:
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2 3
ACTIVE LEARNING 1 ACTIVE LEARNING 1
Budget Constraint Answers D. Hurley’s budget
Quantity
Hurley’s income: $1200 of Mangos constraint shows
B the bundles he can
Prices: PF = $4 per fish, PM = $1 per mango
A. $1200/$4 afford.
A. If Hurley spends all his income on fish, = 300 fish
how many fish does he buy? C
B. $1200/$1
B. If Hurley spends all his income on mangos,
= 1200
how many mangos does he buy? mangos
C. If Hurley buys 100 fish, how many mangos can
C. 100 fish
he buy?
cost $400,
D. Plot each of the bundles from parts A – C on a $800 left
graph that measures fish on the horizontal axis A
buys 800
and mangos on the vertical, connect the dots. Quantity
mangos of Fish
4
4 5
The Slope of the Budget Constraint The Slope of the Budget Constraint
From C to D, Quantity The slope of the budget constraint equals
of Mangos
“rise” = the rate at which Hurley
–200 mangos can trade mangos for fish
“run” = the opportunity cost of fish in terms of mangos
+50 fish C
the relative price of fish:
Slope = – 4 D
Hurley must
give up
4 mangos
to get one fish.
Quantity
of Fish
THE THEORY OF CONSUMER CHOICE 6 THE THEORY OF CONSUMER CHOICE 7
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ACTIVE LEARNING 2 ACTIVE LEARNING 2
Budget constraint, continued. Answers, part A
Quantity A fall in income
Now, of Mangos shifts the budget
Show what happens to Hurley’s budget constraint if:
Hurley constraint down.
A. His income falls to $800. can buy
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10 11
Four Properties of Indifference Curves Four Properties of Indifference Curves
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The Marginal Rate of Substitution One Extreme Case: Perfect Substitutes
Marginal rate of Quantity MRS = slope of Perfect substitutes: two goods with
substitution (MRS): of Mangos indifference curve straight-line indifference curves,
the rate at which a consumer constant MRS
is willing to trade one good for A Example: nickels & dimes
another.
MRS = 6 Consumer is always willing to trade
Hurley’s MRS is the two nickels for one dime.
amount of mangos he 1
would substitute for B
MRS = 2
another fish. 1 I1
MRS falls as you move
down along an Quantity
indifference curve. of Fish
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Quantity Quantity
of Coke of hot dogs
THE THEORY OF CONSUMER CHOICE 18
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Optimization: What the Consumer Chooses Optimization: What the Consumer Chooses
A is the optimum: Quantity Quantity
The optimum At the optimum, Consumer
the point on the of Mangos of Mangos
is the bundle slope of the optimization is
budget constraint
Hurley most indifference curve another example
that touches the
1200 prefers out of equals 1200 of “thinking at the
highest possible
all the bundles slope of the budget margin.”
indifference curve.
he can afford. constraint:
Hurley prefers B to A, B
MRS = PF/PM
but he cannot afford B. 600
A 600
A
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Quantity
of Fish
THE THEORY OF CONSUMER CHOICE 22 23
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ACTIVE LEARNING 3 The Effects of a Price Change
Answers Quantity Quantity
Initially,
of Mangos of Mangos
PF = $4
If mangos are PM = $1
1200
initial
inferior, the new optimum
optimum will
PF falls to $2 new
contain fewer optimum
mangos. budget constraint 600
A rotates outward, 500
B
Hurley buys
more fish and
fewer mangos.
150 300 600 Quantity
350 of Fish
Quantity
of Fish
24 THE THEORY OF CONSUMER CHOICE 25
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Quantity Price of
of Mangos Fish
A Thank You!
$4
A
B
B
$2
DFish
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