ECON-1006EL Lecture Notes - Lecture 5: Marginal Utility, Budget Constraint, Giffen Good
20 Jun 2018
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Definitions
Utility — The state of being. Useful, profitable or beneficial.
Consumption Bundle — The collection of all the goods and services consumed by that
individual.
Utility function —function that ranks alternative according to their utility to an individual.
Util - The unit of utility
Marginal Utility - Change in the total utility generated by consuming one addition unit of that
good or service.
Marginal Utility curve - Shows how marginal utility depends on the quantity of a good or service
consumed.
Principle of diminishing marginal utility - Says that each successive unit of a good or service
consumed adds less to total utility than the previous unit.
Budget Constraint — Requires that the cost of a consumers consumption bundle be no more
than the consumers total income.
Consumption possibilities — Is the set of all consumption bundles that can be consumed given
the consumer’s income and prevailing prices.
Budget Line — Shows the consumption bundles available to a consumer who spends all of his
or her income.
Optimal Consumption Bundle — Is the consumption bundle that maximizes a consumer’s total
utility given his or her budget constraint.
Marginal utility per dollar — MUPD Spent on a good or service is that additional utility from
spending one more dollar on that good or service.
MUgood/Pgood
Optimal consumption rule — When a consumer maximizes utility, the marginal utility per dollar
spent must be the same for all goods and services in the consumption bundle. MUc/Pc = MUp/
Pp
Substitution effect — As prices rise — or income decreases — consumers will replace more
expensive items with less costly alternatives.
Income effect — Changes in consumption resulting from a change in real income.
Giffen good — product that people consume more of as the price rises and vice versa.
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Document Summary
Consumption bundle the collection of all the goods and services consumed by that individual. Utility function function that ranks alternative according to their utility to an individual. Marginal utility - change in the total utility generated by consuming one addition unit of that good or service. Marginal utility curve - shows how marginal utility depends on the quantity of a good or service consumed. Principle of diminishing marginal utility - says that each successive unit of a good or service consumed adds less to total utility than the previous unit. Budget constraint requires that the cost of a consumers consumption bundle be no more than the consumers total income. Consumption possibilities is the set of all consumption bundles that can be consumed given the consumer"s income and prevailing prices. Budget line shows the consumption bundles available to a consumer who spends all of his or her income.
