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2.5 Conclusion
Positive Economics Normative Economics
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Marginal Utility
Underlying the derivation of indifference curves is the
notion that each individual has a well-defined utility
function. marginal utility The additional
increment to utility obtained by
A utility function is some mathematical representation consuming an additional unit of
a good.
U = f(X1, X2, X3, …),
where
This utility function described exhibits the important principle of
X1, X2, X3, and so on diminishing marginal utility: the consumption of each additional unit of
a good makes an individual less happy than the consumption of the
are the goods consumed by the individual previous unit.
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MRS MU M / MU C
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When a person’s budget is fixed, if he buys one thing he is, by definition, reducing the
money he has to spend on other things. Indirectly, this purchase has the same effect as
a direct good-for-good trade.
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2.1
Constrained Utility Maximization Putting It All Together: Constrained Choice
Budget Constraints
FIGURE 2-5
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2.1
Putting It All Together: Constrained Choice Constrained Utility Maximization
FIGURE 2-6
Marginal analysis, the consideration of the costs and benefits of an additional unit of
consumption or production, is a central concept in modeling an individual’s choice of
goods and a firm’s production decision.
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The Effects of Price Changes: Substitution and Income Effects The Effects of Price Changes: Substitution and Income Effects
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Demand Curves
inferior goods Goods for which
demand falls as income rises.
demand curve A curve showing
the quantity of a good demanded
by individuals at each price.
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Equilibrium Equilibrium
FIGURE 2-13
market The arena in which
demanders and suppliers interact.
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Consumer Surplus
Social efficiency represents the net gains to society from all trades that are
made in a particular market, and it consists of two components: consumer
and producer surplus. FIGURE 2-14
Consumer Surplus
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FIGURE 2-15
producer surplus The benefit
that producers derive from
selling a good, above and
beyond the cost of producing
that good.
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FIGURE 2-16
total social surplus (social
efficiency) The sum of
consumer surplus and
producer surplus.
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Competitive Equilibrium Maximizes Social Efficiency From Social Efficiency to Social Welfare: The Role of Equity
It is sometimes confusing to know how to draw deadweight loss triangles. The key to
doing so is to remember that deadweight loss triangles point to the social optimum, and
grow outward from there.
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2.3 2.3
Equilibrium and Social Welfare Equilibrium and Social Welfare
From Social Efficiency to Social Welfare: The Role of Equity From Social Efficiency to Social Welfare: The Role of Equity
equity–efficiency trade-off
equity–efficiency trade-off The choice society must make
The choice society must make between the total size of the
between the total size of the economic pie and its distribution
Equity
Efficiency
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