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Chapter 5

# Chapter 5.docx

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Boston College

Economics

ECON 2201

Unver

Fall

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Chapter 5 – Choice
As you move from right to left along the budget line, you are moving to higher and higher
indifference curves, and stop when you get to the highest indifference curve that just touches the
budget line.
- This point where they touch is labeled ( )
- This is the optimal choice for the consumer because the set of bundles she prefers to her
optimal point (the ones above her indifference curve) doesn’t intersect the bundles she
can afford (the ones below her budget line)
- At this point, the indifference curve is tangent to the budget line
Some indifference curves don’t have a tangent point, such as bundles that have a kink point at
the optimal choice. Other times, the optimal choice occurs where the consumption of one good
is 0.
- Implies that while the tangency condition is necessary, it isn’t sufficient
However, it is sufficient in the case of convex preferences. Any point that satisfies tangency
must be optimal.
−P
1
- If the consumer is at a point where they’re willing to stay put, or where MRS = P2
- Whenever the MRS is different from the price ratio, the consumer cannot be at their
optimal choice
Demanded bundle – the optimal choice of goods 1 and 2 at some set of prices and income is
called the consumer’s demanded bundle
Demand function – the function that relates the optimal choice (quantities demanded) to the
different values of prices and incomes
- Written depending on both prices and income, for example x (p , p , m)1an1 x 2p , p , m) 2 1 2
Basic procedure: plot indifference curves and budget line and find the point where the highest
indifference curve touches the budget line
Perfect substitutes – has three possible cases
1. If p2 > p1, then the slope of the budget line is flatter than the slope of the indifference
curve. Here, the optimal

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