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Lecture 6

WEEK 6.docx

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ECON 1000
George Georgopoulos

WEEK 6: CHAPTER 8: UTILITY AND DEMAND Utility – benefit or satisfaction received from consuming a good Total utility – benefit from consumption of all the different goods Marginal utility – change in total utility from 1-unit increase (positive and diminishes) Principle of diminishing utility – marginal utility decreases as consumption increases Consumer equilibrium – allocated all of the income to maximize total utility (Choices are being made at the margin) Must spend entire income Equalize marginal utility per dollar – marginal utility from a good obtained by spending 1 more dollar on that good  When marginal utilities per dollar is equal, you have maximum utility  If marginal gain from an action exceeds the marginal loss, take the action  There are no units for utility (it is an index such as temperature)  Price changes don’t change the preference; it just changes the marginal utility per dollar  A larger income will allow the buyer to buy more of a normal good  High price = high marginal utility  Low price = low marginal utility CHAPTER 9: POSSIBILITIES, PREFERENCES, AND CHOICES CONSUMPTION POSSIBILITIES A household has a given income and is not able to influence prices of goods Budget line – limits of consumption choices (think PPF) Divisible good – can buy a specific amount (gasoline) Budget equation: Real income – income expressed as a quantity of goods Relative price – price of one good divided by the price of another good (opportunity cost  magnitude of the slope of the budget line) When prices change, so does the budget line Change in income – shift of the budget line (slope remains the same) PREFERENCES AND INDIFFERENCE CURVES Indifference curve – shows combination of goods among which a consumer is indifferent (happy). This allows us to draw conclusions about a person’s preference. Marginal rate of substitution (MRS) – rate at which a person will give up food Y to get one more of good X while remaining indifferent (magnitude of the slope) If steep  MRS is high (willing to give up a lot of Y) If flat  MRS is low (willing to give up small amount of Y) Diminishing marginal rate of substitution –
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