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Chapter 9

Chapter 9 - Possibilities, Preferences and Choices.docx

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York University
ECON 1000
Ardeshir Noordeh

ECON 1000 October xx, 2013 CHAPTER 9: Possibilities, Preferences and Choices Consumption Possibilities • Household consumption choices are constrained by its income and the prices of the goods and services available. • The budget line describes the limits to the household’s consumption choices o The budget line is a constraint on Lisa’s consumption choices. o Lisa can afford any point on her budget line or inside it. o Lisa cannot afford any point outside her budget line. • Budget equation states that: expenditure = income • Lisa’s budget equation is (p = pop, m = movie): PpQp + PmQm = Y o PPQP + PMQM = Y o Divide both sides of this equation by PP, to give: o QP + (PM/PP)QM = Y/PP o Then subtract (PM/PP)QM from both sides of the equation to give: o QP= Y/PP – (PM/PP)QM o Y/PP is Lisa’s real income in terms of pop.  Real income: what we can afford to buy with our income ($40 income means nothing without the price of pop - $1 pop = 40 pops vs. $20 pop = 2 pops - $1 pop provides better satisfaction) o PM/PP is the relative price of a movie in terms of pop. • A rise in the price of the good on the x-axis decreases the affordable quantity of that good and increases the slope of the budget line. o High price = budget line moves left (lesser angle) o Low price = budget line moves right (greater angle) o Example: if the price of pop and movies both double, the budget line shifts inward • A change in $ income brings a parallel shift of the budget line ECON 1000 October xx, 2013 o Higher = budget line moves outwards o Lower = budget line moves inwards Preferences and Indifference Curves • Indifference curve: line showing combinations of goods among which a customer is indifferent o Equally satisfied at any point on the indifference curve • Lisa can sort all possible combinations of goods into three groups: preferred, not preferred, and just as good as point C. An indifference curve joins all those points that Lisa says are just as good as C. • All the points on the indifference curve are preferred to all the points below the indifference curve. • And all the points abo
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