ch 7 e con.docx

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University of Waterloo
ECON 101
Lutz- Alexander Busch

 Total utility curve slopes down  Marginal utility curve slopes down  Utility gained = marginal cost of X / price of X  As the consumer buys more of good X and less of good Y, marginal utilities of the two goods will change.  The law of diminishing marginal utility tells us that the marginal utility of good X will fall as the consumer consumes more of it; the marginal utility of good Y will rise as the consumer consumes less of it  When the two sides are equal, total utility will be maximized  In terms of the marginal decision rule, the consumer will have achieved a solution at which the marginal benefit of the activity (spending more on good X) is equal to the marginal cost  Utility maximization requires that the ratio of marginal utility to price be equal  Utility maximizing condition  For budget constraint for two goods X and Y  Px and Py are the prices of goods X and Y  Qx and Qy are the quantities of good X and good Y  Total expenditures on goods X and Y (on the left side of the equation) cannot exceed B  Individual demand curves reflect utility-maximizing adjustment by consumers to various market prices  As the price falls, consumers tend to buy more of a good  Demand curves are downward- sloping as the law of demand asserts.  Substation effect depends on the rate at which the marginal utilities of goods change as the consumer adjusts consumption to a price change  Magnitude of the income effect of a price change depending on how responsive the demand for a good is to a change in income and on how important the good is in a consumer’s budget  Price changes for a good that make up a substantial fraction of a consumer’s budget the change in the consumer’s ability to buy things is substantial  Change in the price of good that make up a trivial fraction of a consumer’s budget, has little effect oh his or her purchasing power (income effect of such a price change is small)  Each consumer’s response to a price change depends on the sizes of the substitution and income effects, these effects play a role in determining the price elasticity of demand  All other things unchanged, the larger the substitution effect, the greater the absolute value of the price elasticity of demand.  When the income effect moves in the same direction as the substitution effect, a greater income effect contributes to a greater price elasticity of demand as well.  Substitution effect is stronger than the income effect  Consistent with the law of demand: a reduction in price increases the quantity demanded  Quantity demanded is smaller, (be good if it was a normal good)  Inferior goods are therefore likely to have less elastic demand than normal good  Find the slope of the budget line by finding the vertical and horizontal intercept and then co
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