ECON1101 Chapter Notes - Chapter 5: Budget Constraint, Economic Surplus, Demand Curve
Chapter 5
Utility- a numerical indicator of a person’s preference in which higher levels of
utility indicate a greater preference
Marginal utility- the increase in utility when consumption of a good increases by
one unit
• If linear maximised when having all of good with higher MU/P
Assumptions
1. To rank alternative combinations
2. Having more of a good never makes an individual worse off if goods can
be freely traded
3. Diminishing marginal utility: the tendency of a consumer to derive less
additional benefit from adding to the consumption of a good as
consumption of that good increases
4. Unit don't matter
5. You cannot compare utility levels across people
Budget constraint: an income limitation on a person’s expenditure on goods
and services
Utility maximisation: an assumption that people try and achieve the highest
level of utility given their budget constraint
• Can plot individual demand curve for which each
Income effect: the amount by which quantity demanded falls because of the
decline in real income from a price increase
Substitution effect: the amount by, quantity demanded falls when the price
rises, exclusive of the income effect (would occur even if additional income was
provided)
Willingness to pay: the highest price that will be paid for the last unit
purchased
Marginal benefit: the additional benefit of consuming one more unit (or last
unit) of a good
• If a fraction of a unit can be purchases e.g. a measured quantity of nuts
then the demand curve will be smooth
• If units need to be purchased as a whole e.g. card the demand curve will
be set up in steps
If the consumer can adjust the consumption of a good in small increments then the
consumer will buy an amount for which price equals marginal benefit
Market demand curve: the horizontal summation of all the individual demand
curves for a good (will always be smooth→ different preferences)
Consumer surplus: the difference between what the person is willing to pay for
an additional unit of a good (marginal benefit) and the market price of the good;
for the market as a whole, it is the sum of all individual consumer surpluses, or
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Document Summary
Utility- a numerical indicator of a person"s preference in which higher levels of utility indicate a greater preference. Marginal utility- the increase in utility when consumption of a good increases by one unit. If linear maximised when having all of good with higher mu/p. Budget constraint: an income limitation on a person"s expenditure on goods and services. Utility maximisation: an assumption that people try and achieve the highest level of utility given their budget constraint: can plot individual demand curve for which each. Income effect: the amount by which quantity demanded falls because of the decline in real income from a price increase. Substitution effect: the amount by, quantity demanded falls when the price rises, exclusive of the income effect (would occur even if additional income was provided) Willingness to pay: the highest price that will be paid for the last unit purchased. Marginal benefit: the additional benefit of consuming one more unit (or last unit) of a good.
