ECO101H1 Lecture Notes - Internetwork Packet Exchange, Emd Bl2, Inferior Good

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8 Apr 2012
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Lecture Assignment #5- Consumer Theory
Utility Theory - Measurable Satisfaction
Indifference Theory- does not require satisfaction to be measurable: rating/ ranking system
Utility theory
o Maximizing Utility (Satisfaction)
o Satisfaction Measurable “Jollies
o Not worry about budget/ constraint
One good X
Two Goods X+Y
Total Utility
TU= TU (X) how much of good x you have
Q
TU “Jollies”
MU
0
0
10
1
10
8
2
18
6
3
24
6
4
28
4
5
30
2
6
30
0
7
28
-2
- Marginal Utility (MU) Extra Utility from an extra unit
- Equation: MU= TU/X
- Diminishing Marginal Utility (reasonable: Over a fixed period of time)
Demand Schedule for Good X
Px
Qx
$0
6
$1
5
$2
4
$3
3
$4
2
$5
1
$6
0
- Max is 6 because the marginal utility is zero
- Reason: Diminishing Marginal Utility Schedule
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NOT LA #5
- Consumer Surplus- Entire Areas above their price AND below the demand schedule
- 4th Unit- No additional Surplus
- Demand= ½ (4) ($4) = $8
- P= 6-1Q P=2, What is Cs?
- Earliest unit is more valuable
Cont....
Two Good Utility Model
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TU= TU (x, y)
- Read because helps jumping to conclusion
MUx, MUy, Px, Py
MUx/Px = MUy/Py
- Maximize satisfaction
- Marginal utility per dollar spent on good x = MU of last dollar spent bit on good y
- If not equal, you’re nt satisfying maximize satisfaction
- Example:14j/$2 > 4j/$1; 7j/$ > 4j/$
o Buy more x; buy less y
o MU of X/ Px = MUy/ Py
o Optimal Solution
o No better than that
o Suppose Px decrease , the LHS? RHS; if that happens, buy more LHS to reduce equality,
slope of Dx
- MUx/Px= MUy/Py
- Qxd negatively slope
o Law of Diminishing Marginal Utility
MU Equilibrium Equation
MUX/ Px= MUY/ Py
Looking at Demand Side....
- Adam Smith “Paradox of Value” – Nations of Wealth -1776
o Value- 2 meaning value in use or value in exchange
o The things which have the greatest value-in-use have frequently little or no value- in-
exchange, those which have greater value in exchange have frequently little or no
value-in-use
Example: Water- Diamond
Water: Value in exchange (price) is low because marginal utility is high
Diamond: Value of exchange (price) is high because marginal utility is high
Marginal Utility is driving source of this one
LOW- MUW/ Pw= High- Mud/ Pd
Total Utility is high for water and low for diamond TUw> TUd
Market= MU Drives Decision (it is the key)
Indifference Theory
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