MODULE 2 Theories of Consumer Behavior,
Module No. and Title
Production, Cost and Profit
INTRODUCTION:
This lesson revolves around the fundamental concept of utility or
satisfaction to explain consumption and demand behavior in the short-run.
Graphs and tables lend support as tools of understanding and analysis. Further,
this lesson illustrates the simple dynamics of these tools which can serve as a
starting point in understanding long-run consumption behavior.
Utility
This is the satisfaction derived from the consumption of a commodity which
determines consumption and demand behavior. Considered as the foundation of consumer’s
behavior.
Cultural Factors
- Exert the broadest and deepest influence on consumer behavior.
- Considered as one of the most fundamental determinants of a person’s wants and
behavior.
- The child growing up in society learns a basic set of values, perceptions,
preferences, and behaviors through a process of socialization involving the family
and other key institutions.
- Values of individuals or peoples are highly influenced by the cultural
environment.
- An American or a Western child is exposed to the values of achievement and
success, progress, material comfort, efficiency and practicality.
- A Filipino child is exposed to the values of hiya, pakikisama, social acceptance,
and smooth interpersonal relationships.
Social Factors
- May consist of the following:
1. Reference Groups
o Those groups that have a direct or indirect influence on the person’s
attitudes or behavior.
e.x. A teenager who buys shoes that are in accordance to the taste of his
peer group while a more matured person would prefer more durable or
conservative shoes.
2. Family Members
o They can exercise a strong influence on the buyer’s behavior.
3. Social roles and statuses
o A person’s position in each groups can be defined in terms of role and
status. A role consists of the activities a person is expected to perform
according to the person around him or her.
Personal Factors
- Buyer’s decisions are also influenced by personal outward characteristics such as:
1. Age and life cycle
o Consumption of goods and services changes over the course of a person’s
lifetime.
2. Occupation
o A company president will buy expensive clothes while a blue-collar
worker will buy work clothes.
3. Economic circumstances
4. Lifestyle
5. Personality
6. Self - concept
Psychological Factors
- May consist of the following:
1. Motivation
Maslow’s Theory of Motivation
Figure 2 shows Maslow’s Hierarchy of Needs. In this figure, Abraham
Maslow sought to explain why people are driven by particular needs at
particular times.
o A person will try to satisfy the most important needs first. When a person
succeeds in satisfying an important need, it will cease being a motivator
for the present time. And the person will be motivated to satisfy the next
most important.
o A motivated person is ready to act. How the motivated person acts is
influenced by his perception and learning of the situation.
2. Perception
o It is the process by which an individual selects, organizes, and interprets
information to create meaningful picture of the world.
3. Learning
o Describes changes in an individual’s behavior arising from experience.
4. Beliefs and attitudes
o These are acquired through perception and learning.
o A belief is a descriptive thought that a person holds about something.
o Attitude describes a person’s enduring favorable and unfavorable
cognitive evaluations, emotional feelings, and action tendencies toward
some object or ideas.
- In summary, a consumer will buy a particular product, given an optimum budget,
if he or she thinks and believes that this product will give him or her the best
value or utility.
The Utility Function
- Utility is the technical term for satisfaction.
- Total Utility
TU ( Total Utility )=Function of Q ( Consumption )
∆(TU )
MU =
∆Q
MU stands for Marginal Utility. It is the satisfaction from an
additional unit of consumption.
Where = change
Table 1. Utility Schedule
Consumption Total Marginal
(Q) Utility (TU) Utility (MU)
1 7 7
2 13 6
3 18 5
4 22 4
5 25 3
6 27 2
7 28 1
8 28 0
9 27 -1
10 25 -2
11 22 -3
12 18 -4
13 13 -5
14 7 -6
15 0 -7
28 28
27 27
25 25
22 22
18 18
13 13
Utility
7 7
6
5
4
3
2
1
0 0
1 2 3 4 5 6 7 8 -1
9 10 11 12 13 14 15
-2
-3
-4
-5
-6
-7
Consumption
Total Utility Marginal Utility
Consumption
The Indifference Curve
This a curve which contains varying combination in the consumption of commodities
that yield the same level of total utility.
Table 2. Indifference Schedule
Food Clothing Marginal
Consumption Consumption Rate of
Substitution
(MRS)
56 1 -
46 2 -10
37 3 -9
29 4 -8
22 5 -7
16 6 -6
11 7 -5
8 8 -4
5 9 -3
3 10 -2
2 11 -1
The Law of Diminishing Marginal Utility and the Shape of the Curve
The shape of the indifference curve is convex to the graph’s point of origin due to the
Law of Diminishing Returns. To maintain overall satisfaction, one only has to give up less of
a good with an increasing MU to be regained by more consumption of another with a
decreasing MU.
At the extreme, no one is willing to give up a valuable good in exchange for a
worthless one.
In practical terms, one is only willing to forego less and less of one good in exchange
for more and more of another as the former becomes relatively scarce and more valuable and
the latter relatively abundant and less valuable.
The Budget Line and the Optimum Combination
The Budget Line
- The budget line contains infinite points of combinations of the commodity items
that the same budget can buy at a given prices.
B = (Pf ) (Qf ) + (Pc ) (Qc )
Max Qf = B/Pf (Maximum of F – Food)
Max Qc = B/Pc (Maximum of C – Clothing)
Where B = Given Budget
Qf = Quantity of Food
Qc = Quantity of Clothing
Pf = Price of Food
Pc = Price of Clothing
Thus, the budget (B) is the total expenditure per food and clothing (for our
example above).
- An inversely proportional relationship exists between the two commodities along
the budget line given the budget and prices are constant.
Table 3. Hierarchy of Budget Schedules
● Price of Food = Php 50.00
● Price of Clothing = Php 100.00
● Rate of Substitution of Food to Clothing = 2
Budget = Php 500.00 Budget = Php 1,000 Budget = Php 1,500
Row
Number Clothing Clothing Clothing
Food (Qf) Food (Qf) Food (Qf)
(Qc) (Qc) (Qc)
R1 10 0 20 0 40 0s
R2 8 1 16 2 32 4
R3 6 2 12 4 24 8
R4 4 3 8 6 16 12
R5 2 4 4 8 8 16
R6 0 5 0 10 0 20
The Optimum Combination
- The concept of optimum combination implies that a consumer can increase the
level of satisfaction, despite a fixed income, by altering the consumption mix.
- For example, the consumers minimize their consumption of luxurious items in
favor of the more basic ones during an economic crisis.
- Helps make correct social decisions.
Dynamics
- The world is not static and so is consumption which can change due to the
consumer or the goods themselves.
- Factors that may affect consumption:
o Prices – can change to make goods relative cheap or costly. Consumer
may now buy more of cheaper food but less of costlier clothing.
o Relative preference can also change the consumption mix. Consumer
may now be willing to give up more food in exchange for clothing which
has become more valuable.
▪ This change in preference can happen in the real world when
corporate advertising bamboozles consumers with new designs
that appeal to vanity.
- The ultimate result is a condition of equality and maximum satisfaction where the
utility gained or marginal utility from the last peso spent on one commodity is the
same as in any other commodity.
Income and Substitution Effects
- Substitution Effect
o Results in a net gain in satisfaction since an additional peso is better
spent on cheaper and more units of Pepsi instead of the costlier units of
Coke.
o In particular, a decrease in the price of Pepsi means more consumption,
and, hence, from the last peso spent more satisfaction. In effect, the
marginal utility advantage of consuming more Pepsi instead of Coke
leads the consumer to substitute the former for the latter until the equi-
marginal condition is fully met.
o The greater is the change in price, the greater are both effects. But the
close substitute products are, the greater is the substitution effect which
offsets the income effect on consumption.
o Consider the extreme case of a good without substitutes. Consumers have
no choice but to buy less of other goods to pay for the same costlier
volume of this good and bear the income effect of its higher price in full,
in the absence of alternatives.
o In contrast, consumers could avoid this loss of purchasing power if they
shifter to cheaper substitutes without being worse-off, assuming perfect
substitution.
o In between the two extremes, the greater is the substitution effect, the
more it influences consumption over income effect.
UTILITY AND DEMAND
Demand
- There is a potential consumption for a certain commodity item given its market
price and the income of its potential consumers. This potential consumption is
also called demand which is the quantity that the consumers are willing to buy.
- Moreover, as to how much of the given income is allocated for the product
depends on the influences of the other non-price factors of demand such as
population, taste or preference and speculation.
Consumer Surplus
- The peso value that the consumer is willing to pay for certain volume of a
commodity is less than the peso value of the benefit from its consumption. This
also means that the utility units foregone in paying for the commodity item is less
than the utility units gained from its consumption. The net benefit from the
exchange is called consumer’s surplus or additional purchasing power.
- Consumer’s surplus is an indicator of social welfare and can help make correct
social decisions.
o For example, a substantial decrease in this surplus indicates the negative
impact of an increase in price on consumer’s welfare. This price increase
leaves the consumer with more expenditure for the product and
consequently less surplus spending for other products.
- Change in consumer surplus is change in well-being and is actually the income
effect.
The Paradox of Value
- The answer to this question lies in the equilibrium theory of supply and demand
as well as the theory of diminishing marginal utility.
o Despite its importance, the price of water is low as consumers are only
willing to pay less for its abundance and low level of marginal utility.
However, the opposite is true for diamond which is scarce.
o The foregoing leads to the distinction between Value in Use and Value in
Exchange.
- “The total utility of water does not determine its price or demand.” – Paul
Samuelson.
Identification:
1.
2. Cultural factors that affect consumer behavior.
3.
4.
5. Personal factors that affect consumer behavior
6.
7.
8. His Theory of Motivation explains the psychological factors that affect consumer
behavior.
9. Term in economics for satisfaction.
10. Social group that has a direct or indirect influence on one’s consumer behavior.
11. MRS stands for?
12. Formula for Marginal Utility
13. It is the function of the units of consumption.
14. Every peso spent should yield the highest of this as possible.
15. This is the quantity that the consumers are willing to buy.
Well done for finishing your first lesson for this
module!
If you are ready, please proceed to Lesson 2 for Module 2.
