Professional Documents
Culture Documents
Summary2 PDF
Summary2 PDF
Week 3
The Theory of Consumer Behavior
• Consumer behavior theory describes how consumers allocate their income among
different goods and services to maximize their utility, given their budget constraints
and several factors influencing consumer behavior.
Utility
• Utility refers to the satisfaction or happiness of a consumer derived from consuming a
good or service.
• It is a measure of the benefit that the consumer gets from consuming a certain amount
of a good or service.
• Two measurements:
▪ The idea of one good being more useful or compelling than another is
known as "ordinal" utility.
• For example, we prefer a Benz car to a Toyota car, but we don't
say by how much.
▪ "Cardinal" utility is the notion that economic value can be quantified in
fictitious units called "utils."
▪ For example, People might be able to explain the utility that the
consumption of particular items provides.
• For example, if a Toyota car gives 4,000 units of utility, a Benz
car would give 8,000 units.
o The satisfaction level cannot be evaluated but can be leveled, according to the
ordinal utility, however, the cardinal utility believes it can be measured in utils.
Cardinal approach
• The Cardinal approach to measuring utility assigns numerical values to utility to
compare and rank different levels of satisfaction. It assumes that utility can be measured
precisely and quantified.
[Date] 1
ECON_WEEK3 1022210079
• Change in the total utility resulting from the consumption of one additional unit
MU = ∆TU/∆Q
Marginal Utility
• The marginal utility of a good or service is the additional satisfaction a consumer gets
from consuming an extra unit.
• As a consumer consumes more units of a good or service, the additional satisfaction
they get from consuming each additional unit decreases.
• The law of equilibrium marginal utility states that the marginal utility per dollar spent
on each good or service is equal.
• This law states that a consumer should spend their limited income on different
commodities to get maximum satisfaction from a limited income.
• There are several laws of diminishing marginal units, each of which are different but
tangentially related across the life cycle of a product.
• As a consumer consumes more than one commodity, the additional satisfaction they
get from consuming each additional unit decreases.
• Demand curves are downward sloping in microeconomic models, and salespeople use
this law to keep marginal utility high for products that they sell.
[Date] 2
ECON_WEEK3 1022210079
1 40 40-0=40
2 70 70-40=30
3 90 90-70=20
4 100 100-90=10
5 100 100-100=0
6 90 100-90= -10
[Date] 3
ECON_WEEK3 1022210079
Consumer Equilibrium
• Consumer equilibrium is reached when the marginal utility per dollar spent on each
good or service is equal.
• The consumer will be in the state of equilibrium when the following condition is
fulfilled:
Or
A utility maximizing consumer exchanges his money income for the commodity as long as
The utility maximizing consumer reaches his equilibrium with the level of his maximum
satisfaction were
𝑴𝑼𝒙 = 𝑷𝒙 (𝑴𝑼𝒎 ).
For example:
(𝑴𝑼𝒎 ) MUx
[Date] 4
ECON_WEEK3 1022210079
3 10 10 Consumer’s Equilibrium
(MUX=PX)
6 10 -6
• The law of maximum satisfaction states that a consumer should spend his limited
income on different commodities in such a way that the last rupee spent on each
commodity yield him equal marginal utility in order to get maximum satisfaction.
[Date] 5
ECON_WEEK3 1022210079
• Suppose there are different commodities like A, B, …, N. A consumer will get the
maximum satisfaction in the case of equilibrium i.e.,
• Where MU’s are the marginal utilities for the commodities and P’s are the prices of the
commodities.
▪ The consumer reaches his equilibrium when the marginal utility derived
from each rupee spent on two commodities X and Y is the same.
MUX MUY
▪ =
PX PY
[Date] 6
ECON_WEEK3 1022210079
[Date] 7
ECON_WEEK3 1022210079
Week 4
Elasticity
■ Elasticity influences decisions such as pricing strategies, production levels, and tax
policies.
■ Elastic demand means that the quantity demanded for a good or service is highly
responsive to changes in price. Inelastic demand means that the quantity demanded for a
good or service is not very responsive to changes in price.
• Each type of elasticity measures the responsiveness of either the demand or supply
to changes in specific factors.
o For example, the price elasticity of demand measures the responsiveness of the
quantity demanded of a product to a change in its price.
o If the price elasticity of demand is high, then a small
increase in price will cause a large decrease in the quantity
demanded.
o On the other hand, if the price elasticity of demand is low,
then a price change will have little effect on the quantity
demanded.
[Date] 8
ECON_WEEK3 1022210079
• Price elasticity of demand measures how much the demand for a product changes when the
price of that product changes.
Elastic demand: If the demand for a good or service is elastic, it means that the
quantity demanded is highly responsive to changes in price.
o A small change in price results in a proportionally larger change in quantity
demanded. The elasticity of demand is greater than 1 in absolute value.
Inelastic demand: If the demand for a good or service is inelastic, it means that the
quantity demanded is not very responsive to changes in price.
o Even if there is a significant change in price, the quantity demanded changes
proportionally by a smaller amount. The elasticity of demand is less than 1 in
absolute value.
[Date] 9
ECON_WEEK3 1022210079
[Date] 10
ECON_WEEK3 1022210079
[Date] 11
ECON_WEEK3 1022210079
• A good or service with zero income elasticity of demand has a relatively stable
demand regardless of changes in income.
• The cross-price elasticity of demand measures the degree to which demand for one
good is affected by the price of another good.
Measures how much quantity demanded for good X changes when price
of good Y changes
% change in quantity demanded of Product X
% change in price of Product Y
If the cross-price elasticity is positive (>0) then two products are
substitutes. The greater the elasticity the more similar are the products.
[Date] 12
ECON_WEEK3 1022210079
• For example, if two goods have a positive cross price elasticity of demand, a business
might decide to lower the price of their goods to increase the quantity demanded and
gain market share.
• Supply elasticity measures how responsive the quantity supplied of a good or service is to
changes in its price.
o Elastic supply: If the supply of a good or service is elastic, it means that the
quantity supplied is highly responsive to changes in price. A small change in
price results in a proportionally larger change in quantity supplied. The
elasticity of supply is greater than 1 in absolute value.
[Date] 13
ECON_WEEK3 1022210079
o Inelastic supply: If the supply of a good or service is inelastic, it means that the
quantity supplied is not very responsive to changes in price. Even if there is a
significant change in price, the quantity supplied changes proportionally by a
smaller amount. The elasticity of supply is less than 1 in absolute value.
[Date] 14
ECON_WEEK3 1022210079
[Date] 15