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Chapter 3: Consumer Behavior. Slide 2. . . Consumer Behavior. There are three steps involved in the study of consumer behavior.1) We will study consumer preferences.To describe how and why people prefer one good to another.. Chapter 3: Consumer Behavior. Slide 3. . . Consumer Behavior. There are
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1. Chapter 3 Consumer Behavior
2. Chapter 3: Consumer Behavior Slide 2 Consumer Behavior There are three steps involved in the study of consumer behavior.
1) We will study consumer preferences.
To describe how and why people prefer one good to another.
3. Chapter 3: Consumer Behavior Slide 3 Consumer Behavior There are three steps involved in the study of consumer behavior.
2) Then we will turn to budget constraints.
People have limited incomes.
4. Chapter 3: Consumer Behavior Slide 4 Consumer Behavior There are three steps involved in the study of consumer behavior.
3) Finally, we will combine consumer preferences and budget constraints to determine consumer choices.
What combination of goods will consumers buy to maximize their satisfaction?
5. Chapter 3: Consumer Behavior Slide 5 Consumer Preferences A market basket is a collection of one or more commodities.
One market basket may be preferred over another market basket containing a different combination of goods.
6. Chapter 3: Consumer Behavior Slide 6 Consumer Preferences Three Basic Assumptions
1) Preferences are complete.
2) Preferences are transitive.
3) Consumers always prefer more of any good to less.
7. Chapter 3: Consumer Behavior Slide 7 Consumer Preferences A 20 30
B 10 50
D 40 20
E 30 40
G 10 20
H 10 40
8. Chapter 3: Consumer Behavior Slide 8 Consumer Preferences Indifference curves represent all combinations of market baskets that provide the same level of satisfaction to a person.
9. Chapter 3: Consumer Behavior Slide 9 Consumer Preferences
10. Chapter 3: Consumer Behavior Slide 10 Consumer Preferences
11. Chapter 3: Consumer Behavior Slide 11 Consumer Preferences
12. Chapter 3: Consumer Behavior Slide 12 Consumer Preferences
13. Chapter 3: Consumer Behavior Slide 13 Consumer Preferences
14. Chapter 3: Consumer Behavior Slide 14 Consumer Preferences The marginal rate of substitution (MRS) quantifies the amount of one good a consumer will give up to obtain more of another good.
It is measured by the slope of the indifference curve.
15. Chapter 3: Consumer Behavior Slide 15 Consumer Preferences
16. Chapter 3: Consumer Behavior Slide 16 Consumer Preferences Indifference curves are convex because as more of one good is consumed, a consumer would prefer to give up fewer units of a second good to get additional units of the first one.
Consumers prefer a balanced market basket
17. Chapter 3: Consumer Behavior Slide 17 Consumer Preferences Perfect Substitutes and Perfect Complements
Two goods are perfect substitutes when the marginal rate of substitution of one good for the other is constant.
18. Chapter 3: Consumer Behavior Slide 18 Consumer Preferences
19. Chapter 3: Consumer Behavior Slide 19 Consumer Preferences Perfect Substitutes and Perfect Complements
Two goods are perfect complements when the indifference curves for the goods are shaped as right angles.
20. Chapter 3: Consumer Behavior Slide 20 Consumer Preferences
21. Chapter 3: Consumer Behavior Slide 21 Consumer Preferences BADS
Things for which less is preferred to more
Examples
Air pollution
Asbestos
22. Chapter 3: Consumer Behavior Slide 22 Consumer Preferences What Do You Think?
How can we account for Bads in the analysis of consumer preferences?
23. Chapter 3: Consumer Behavior Slide 23 Consumer Preferences Automobile executives must regularly decide when to introduce new models and how much money to invest in restyling.
24. Chapter 3: Consumer Behavior Slide 24 Consumer Preferences
25. Chapter 3: Consumer Behavior Slide 25 Consumer Preferences
26. Chapter 3: Consumer Behavior Slide 26 Consumer Preferences What Do You Think?
How can we determine the consumers preference?
27. Chapter 3: Consumer Behavior Slide 27 Consumer Preferences A recent study of automobile demand in the United States shows that over the past two decades most consumers have preferred styling over performance.
28. Chapter 3: Consumer Behavior Slide 28 Consumer Preferences Utility
Utility: Numerical score representing the satisfaction that a consumer gets from a given market basket.
29. Chapter 3: Consumer Behavior Slide 29 Consumer Preferences Utility Functions
Assume: The utility function for food (F) and clothing (C) U(F,C) = F + 2C
Market Baskets: F units C units U(F,C) = F + 2C A 8 3 8 + 2(3) = 14 B 6 4 6 + 2(4) = 14 C 4 4 4 + 2(4) = 12 The consumer is indifferent to A & B The consumer prefers A & B to C
30. Chapter 3: Consumer Behavior Slide 30 Consumer Preferences
31. Chapter 3: Consumer Behavior Slide 31 Consumer Preferences Ordinal Versus Cardinal Utility
Ordinal Utility Function: places market baskets in the order of most preferred to least preferred, but it does not indicate how much one market basket is preferred to another.
Cardinal Utility Function: utility function describing the extent to which one market basket is preferred to another.
32. Chapter 3: Consumer Behavior Slide 32 Consumer Preferences Ordinal Versus Cardinal Rankings
The actual unit of measurement for utility is not important.
Therefore, an ordinal ranking is sufficient to explain how most individual decisions are made.
33. Chapter 3: Consumer Behavior Slide 33 Budget Constraints Preferences do not explain all of consumer behavior.
Budget constraints also limit an individual’s ability to consume in light of the prices they must pay for various goods and services.
34. Chapter 3: Consumer Behavior Slide 34 Budget Constraints The Budget Line
The budget line indicates all combinations of two commodities for which total money spent equals total income.
35. Chapter 3: Consumer Behavior Slide 35 Budget Constraints The budget line then can be written:
36. Chapter 3: Consumer Behavior Slide 36 Budget Constraints A 0 40 $80
B 20 30 $80
D 40 20 $80
E 60 10 $80
G 80 0 $80
37. Chapter 3: Consumer Behavior Slide 37 Budget Constraints
38. Chapter 3: Consumer Behavior Slide 38 Budget Constraints
39. Chapter 3: Consumer Behavior Slide 39 Budget Constraints
40. Chapter 3: Consumer Behavior Slide 40 Budget Constraints The Effects of Changes in Income and Prices
Price Changes
If the two goods increase in price, but the ratio of the two prices is unchanged, the slope will not change.
41. Chapter 3: Consumer Behavior Slide 41 Budget Constraints The Effects of Changes in Income and Prices
Price Changes
However, the budget line will shift inward to a point parallel to the original budget line.
42. Chapter 3: Consumer Behavior Slide 42 Budget Constraints The Effects of Changes in Income and Prices
Price Changes
If the two goods decrease in price, but the ratio of the two prices is unchanged, the slope will not change.
43. Chapter 3: Consumer Behavior Slide 43 Budget Constraints The Effects of Changes in Income and Prices
Price Changes
However, the budget line will shift outward to a point parallel to the original budget line.
44. Chapter 3: Consumer Behavior Slide 44 Consumer Choice Consumers choose a combination of goods that will maximize the satisfaction they can achieve, given the limited budget available to them.
45. Chapter 3: Consumer Behavior Slide 45 Consumer Choice The maximizing market basket must satisfy two conditions:
1) It must be located on the budget line.
2) Must give the consumer the most preferred combination of goods and services.
46. Chapter 3: Consumer Behavior Slide 46 Recall, the slope of an indifference curve is: Consumer Choice
47. Chapter 3: Consumer Behavior Slide 47 Consumer Choice Therefore, it can be said that satisfaction is maximized where:
48. Chapter 3: Consumer Behavior Slide 48 Consumer Choice
49. Chapter 3: Consumer Behavior Slide 49 Consumer Choice
50. Chapter 3: Consumer Behavior Slide 50 Consumer Choice
51. Chapter 3: Consumer Behavior Slide 51 Consumer Choice Choosing between a non-matching and matching grant to fund police expenditures
52. Chapter 3: Consumer Behavior Slide 52 Consumer Choice
53. Chapter 3: Consumer Behavior Slide 53 Consumer Choice
54. Chapter 3: Consumer Behavior Slide 54 Consumer Choice
55. Chapter 3: Consumer Behavior Slide 55 Consumer Choice
56. Chapter 3: Consumer Behavior Slide 56 Consumer Choice A corner solution exists if a consumer buys in extremes, and buys all of one category of good and none of another.
This exists where the indifference curves are tangent to the horizontal and/or vertical axis.
MRS is not equal to PA/PB at the chosen bundle.
57. Chapter 3: Consumer Behavior Slide 57 A Corner Solution
58. Chapter 3: Consumer Behavior Slide 58 Consumer Choice A Corner Solution
When a corner solution arises, the consumer’s MRS does not necessarily equal the price ratio.
In this instance it can be said that:
59. Chapter 3: Consumer Behavior Slide 59 Consumer Choice A Corner Solution
If the MRS is, in fact, significantly greater than the price ratio, then a small decrease in the price of frozen yogurt will not alter the consumer’s market basket.
60. Chapter 3: Consumer Behavior Slide 60 Revealed Preferences If we know the choices a consumer has made, we can determine what her preferences are if we have information about a sufficient number of choices that are made when prices and income vary.
61. Chapter 3: Consumer Behavior Slide 61 Revealed Preferences-- Two Budget Lines
62. Chapter 3: Consumer Behavior Slide 62 Revealed Preferences-- Two Budget Lines
63. Chapter 3: Consumer Behavior Slide 63 Revealed Preferences-- Four Budget Lines
64. Chapter 3: Consumer Behavior Slide 64 Marginal utility measures the additional satisfaction obtained from consuming one additional unit of a good. Marginal Utility and Consumer Choice
65. Chapter 3: Consumer Behavior Slide 65 The principle of diminishing marginal utility states that as more and more of a good is consumed, consuming additional amounts will yield smaller and smaller additions to utility. Marginal Utility and Consumer Choice
66. Chapter 3: Consumer Behavior Slide 66 Marginal Utility and the Indifference Curve
If consumption moves along an indifference curve, the additional utility derived from an increase in the consumption of one good, food (F), must balance the loss of utility from the decrease in the consumption in the other good, clothing (C). Marginal Utility and Consumer Choice
67. Chapter 3: Consumer Behavior Slide 67 The equation for utility maximization: Marginal Utility and Consumer Choice
68. Chapter 3: Consumer Behavior Slide 68 In 1974 and again in 1979, the government imposed price controls on gasoline.
This resulted in shortages and gasoline was rationed. Marginal Utility and Consumer Choice
69. Chapter 3: Consumer Behavior Slide 69 Nonprice rationing is an alternative to market rationing.
Under one form everyone has an equal chance to purchase a rationed good.
Gasoline is rationed by long lines at the gas pumps. Marginal Utility and Consumer Choice
70. Chapter 3: Consumer Behavior Slide 70 Rationing hurts some by limiting the amount of gasoline they can buy.
This can be seen in the following model.
It applies to a woman with an annual income of $20,000. Marginal Utility and Consumer Choice
71. Chapter 3: Consumer Behavior Slide 71 The horizontal axis shows her annual consumption of gasoline at $1/gallon.
The vertical axis shows her remaining income after purchasing gasoline. Marginal Utility and Consumer Choice
72. Chapter 3: Consumer Behavior Slide 72 Marginal Utility and Consumer Choice
