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    Signs of Derivatives v3

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    economics555
    This document defines key concepts related to consumer choice theory including: 1) Marginal utility, marginal rate of substitution, and the slope of indifference curves. 2) How to determine whether goods are "more is better", "more does not matter", or "more is worse" based on their marginal utility. 3) How the slope of indifference curves and marginal rate of substitution relate to whether goods are complements or substitutes. 4) Special cases for perfect complements and maximum consumption bundles.

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    Signs of Derivatives v3

    Uploaded by

    economics555
    6 views4 pages
    This document defines key concepts related to consumer choice theory including: 1) Marginal utility, marginal rate of substitution, and the slope of indifference curves. 2) How to determine whether goods are "more is better", "more does not matter", or "more is worse" based on their marginal utility. 3) How the slope of indifference curves and marginal rate of substitution relate to whether goods are complements or substitutes. 4) Special cases for perfect complements and maximum consumption bundles.

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    This document defines key concepts related to consumer choice theory including: 1) Marginal utility, marginal rate of substitution, and the slope of indifference curves. 2) How to determine whether goods are "more is better", "more does not matter", or "more is worse" based on their marginal utility. 3) How the slope of indifference curves and marginal rate of substitution relate to whether goods are complements or substitutes. 4) Special cases for perfect complements and maximum consumption bundles.

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    6 views4 pages

    Signs of Derivatives v3

    Uploaded by

    economics555
    This document defines key concepts related to consumer choice theory including: 1) Marginal utility, marginal rate of substitution, and the slope of indifference curves. 2) How to determine whether goods are "more is better", "more does not matter", or "more is worse" based on their marginal utility. 3) How the slope of indifference curves and marginal rate of substitution relate to whether goods are complements or substitutes. 4) Special cases for perfect complements and maximum consumption bundles.

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    of 4

    Signs of Derivatives (Version 3)

    Basic Definitions and Relationships 1. Marginal Utility of x 2. MRS MU x MU y


    U x

    3. Slope of Indifference Curve - MRS 4.


    (slope of IC) MRS x x

    More is Better Holding y constant, x has the property of: i. More is Better (good)
    U >0 x

    ii.

    More does not matter (neutral good)


    U =0 x

    iii.

    More is Worse (bad)


    U <0 x

    Remember that since y is on the vertical axis the arrows for y are 90 degrees anti-clockwise to that of x. Knowing the above for both x and y you can solve for i. Towards which direction of the graph is better ii. Slope of IC

    Direction of Graph e.g. x and y are both goods:

    Slope of IC Slope of Indifference Curve - MRS So if x y MRS IC slope Possible Graph(s) MU x MU y

    good

    good

    good

    bad

    bad

    good

    good

    neutral

    neutral

    good

    Marginal Rate of Substitution A. If x and y are both goods, i. Diminishing Marginal Rate of Substitution
    MRS <0 x

    ii.

    Prefer average bundles - Interior solution if slope of BC = slope of IC at some positive x and y; corner solution otherwise Convex IC Constant Marginal Rate of Substitution
    MRS =0 x

    iii.

    Perfect Substitutes - Whole BC is solution if slope of BC = slope of IC; corner solution otherwise Straight line IC Increasing Marginal Rate of Substitution
    MRS >0 x

    Prefer Extremescorner solution Concave IC

    B. If x is a good and y is a bad/neutral Corner solutionconsume only x C. If x is a bad/neutral and y is a good Corner solutionconsume only y Graphs for one good and one bad

    Special Cases min{A,B} - Perfect Complements Perfect complements has L shaped ICs. The kink c always satisfies A = B. Optimal Solution: Always at the kink. Find the relationship between x and y with A = B, substitute that into the budget constraint and solve for x and y. MRS: MRS is 0 at the horizontal portion of an indifference curve and infinite at the vertical portion. Slope of IC: Slope of IC is 0 at the horizontal portion of an indifference curve and negative infinite at the vertical portion.

    max{A,B} The kink c always satisfies A = B. Optimal Solution: Always corner solution. MRS: MRS is 0 at the horizontal portion of an indifference curve and infinite at the vertical portion. Slope of IC: Slope of IC is 0 at the horizontal portion of an indifference curve and negative infinite at the vertical portion.

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