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23 views12 pagesConsumer's Equilibrium 11th
The document discusses the concepts of utility, consumer equilibrium, and demand, focusing on cardinal and ordinal utility, total and marginal utility, and the law of diminishing marginal utility. It explains how consumers achieve equilibrium by maximizing satisfaction while minimizing expenditure, utilizing both cardinal and ordinal utility analyses. Additionally, it covers indifference curves, budget lines, and the conditions necessary for consumer equilibrium.
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0% found this document useful (0 votes)
23 views12 pagesConsumer's Equilibrium 11th
The document discusses the concepts of utility, consumer equilibrium, and demand, focusing on cardinal and ordinal utility, total and marginal utility, and the law of diminishing marginal utility. It explains how consumers achieve equilibrium by maximizing satisfaction while minimizing expenditure, utilizing both cardinal and ordinal utility analyses. Additionally, it covers indifference curves, budget lines, and the conditions necessary for consumer equilibrium.
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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UNIT 5: CONSUMER'S EQUILIBRIUM AND DEMAND
Concept of Utility: Utility refers to the want satisfying power of a commodity. In other words, utility refers
to satisfaction derived from the consumption of a commodity.
Types of utility:1) Cardinal utility 2) Ordinal utility.
- Utility which can be measured in terms of cardinal numbers, like 1,2,3 etc. Prof. Alfred
cardinal utility.
2) Ordinal utility: - Utility which can’t be measured in cardinal terms, but can be “ranked” or ‘preferred
Prof. Hicks believes in ordinal utility principles,
‘Total Utility (TU):- Sum total of utility obtained by consuming the entire units of the given commodity.
‘Suppose a consumer consumes 2 units of Apple, first unit gives him 10 utils and the second units gives him 8
utils, then the TOTAL UTILITY will be obtained by adding up the utility obtained from the 1* and 2™*
Apples, i.c. ,10 utils + 8 utils, which is equals to 18 utils.
Marginal Utility (MU):- Addition made to the Total Utility by consuming one more unit of the given
commodity. In the above given example, by consuming the 2 unit of Apple, consumer obtained 8 utils, It is
the MU of 2 unit. If he consumes the 3 unit and obtained 6 utils, then the MU of 3 unit will be equal to 6
utils.
“eae?
As we consume more and more units of the given commodity, the MU obtained from each successive unit
tends to diminish.
Relation between TU & MU
As more and more units of the given commodity are consumed, the MU obtained from each successive unit
tends to diminish.
As long as MU falls and remains positive, TU rises.
TU reaches its maximum, then MU becomes zero.
When TU falls, MU become Negative.
Tabular representation
Following schedule shows the relationship between TU & MU.
(No. of units consumed | Total Utility (TU) | Marginal Utility (MU)
1 10 10
2 18, 8
3 24 6
4 28 4
5 30. 2
6 30 0
a 28
From the above table it is clear that;
As long as TU rises MU become positive, that is by consuming up to the 5" units.
When TU remains constant and is its maximum, then MU becomes zero. By consuming the 6" unit, MU
become zero Is, then MU becomes negative. By consuming the 7th unit, MU becomes negative.
MU (n) = TU (n)— TU (n-1)
MU (3) = TU (3) — TU (3-1)
MU (3) =TU @)—TU Q)
= 30-24
=6
! Following diagram shows the relation between TU &
Mu.
y
x
No. of units consumed (Mango)
From the above diagram it is clear that, till the consumption of *ON’ units, TU is rising and MU become
positive (but falling). By consuming the ‘ON’ unit TU reaches its maximum, then MU become ZERO, After
‘ON’ units TU falls and MU become Negative.
Law of Diminishing Marginal Utility
Law of DMU states that as long as a consumer consumes more and more units of the given commodity,
without time gap, then the MU obtained from the each successive unit always declines, Also known a
Gossans' first law of consumption, ‘Psychological law of consumption’,
Basic assumptions
‘Continuous consumption
Homogeneous or identical unit.
‘Only standard unit of the commodity are consumed
‘Consumer is rational
Marginal Utility of money remains constant.
By using the following table, we can explain the law of Diminishing Marginal Utility.
No. of units consumed (Good_X) | Marginal Utility (Good X)
1 10
8
6 alo |u|
From the above table it is clear that by consuming the 1* unit, consumer gets 10 utils. As he consume more|
and more units his Marginal Utility obtained from the given commodity declines. As he consumes 6" units hel
gets zero utility, it is known as the point of satiety. When he consumes 7" unit, he gets negative utility.
‘This law can be able to understand with the help of the following diagram.
Y
mu
sas N omu
Units of Apple consumed
From the diagram, we can see that by consuming more and more
units MU is declining and by consuming ‘ON’ units MU become
zero and after that MU_ is negative.
From the above table and diagram it is clear that, when consumer continuously consumes more units
of apple he will get less and less marginal utility. When he consumes 5* unit, he gets zero utility. This
situation is known as point of satiety. As he consumes 6" units his marginal utility will becomes negative
Consumer’s Equilibrium
Consumer's equilibrium refers to a situation when a consumer attains maximum satisfaction by|
minimum spending. So consumer allocates his given income to the purchase of different goods in a manner|
such that his total satisfaction is maximised
Consumer's Equilibrium: (Under cardinal utility analysis}
This can be discussed under the TWO different situations. They are
1. under single commodity case,
2. under double commodity case.
Consumer's Ei
ibrium (Under single comma:
case)
Under single commodity, a consumer reaches equilibrium when the following conditions are achieved. ie,
a) MU falls as consumption of the commodity increases. (Law of DMU)
'b) MU(x) is equal to the price paid for that good. MU(9) = Price (x)
If MU(X) is more than the price paid for it, then consumer will not be in equilibrium. He should
increase the consumption to reach the equilibrium, till MU(X) become equal to P(x).
On the other hand, If MU(X) is less than the price paid for it, and then consumer will not be in
equilibrium, He should decrease the consumption to reach the equilibrium, till MU(X) become equal to
P(x).
mer’s Equi
Schedule & diagram
+ Following schedule and diagram shows the consumer's equilibrium under the
single commodity case.
rer
oats
ei 4 10 }
MUC%)> PES)
46
point
a in i= |
5 4 ° |" muce < Price (x)
6 4 (2
From the table we can see that by consuming 3" unit consumer reaches the equil
this situation condition of equilibrium is attained i.e. , MU (x) = Price (x)
um, because at Diagrammatic representation
Following diagram shows the determination consumer’s
equilibrium under the single commodity case.
MU(X) = Price (x)
MU&
Price
Price
Noofun 119/275
By consuming ‘ON’ units of apple consumer reaches equilibrium, because the condition of
equilibrium is fulfilled at this point.
‘onsumer’s Eq) im — Double commodities case
Under double commodity case a consumer reaches equilibrium when the following condition is
achieved. That is:
MU(X)
Price(X)
(On the basis of the following assumptions, we can explain the consumer’s equilibrium under the double
commodity case. They are:
Good x & good y are the two goods
Law of diminishing marginal utility is applicable in both the goods case
Price = Rs. I/unit (Good X, good Y)
Income = 5 rupee
With the help of the following table we can see the conditions of consumer's equilibrium Qty. of goods mu x) muy)
2 20 12
2 16 —io>
3 =o 6
a 3 3
5 2 a
From the above table we can see that by consuming 2 un
good *x’ and 3 units of good *y’ ,consumer hes equ
Because at this level condition of consumers equilibrium is achieved.
Indifference Curve Analysis
An Indifference curve is a combination of two goods, which gives the consumer same level of satisfi
It is based upon the ordinal utility analysis. (Utility which can be ranked on the basis of preferences)
Properties of Indifferet Wve
i) Indifference curve Slope downwards from left to right.
Because, to obtain more quantity of one good, the consumer must give up some quantity of the other good in
order to remain at the same utility level
Gi) Strictly convex towards the origin
Because of the diminishing Marginal Rate of Substitution (MRS) an indifference curve always become
convex to the origin
i) Itis based upon the di
diminishing marginal utility.
(iv) It is based upon the ordinal utility analysis
(v) Higher Indifference curve represents higher level of satisfaction; Indifference map is based on monotonic
preference of the consumer, a consumer always prefer a bundle which has more of at least one of the good
and no less of the other good as compared to the other bundle.
(vi) TWO Indifference curves never intersect each other: As two indifference curves cannot represents the
same level of satisfaction, they cannot intersect each other.
Indifference Schedule with MRS
inishing Marginal Rate of Substitution (MRS). MRS falls because of the law of
An Indifference Schedule is a table showing different combinations of 2 goods such that utility from each
combination is the same MRS is a rate at which the consumer is willing to sacrifice a good to Obtain one
more unit of the other good. combinations
A
121/275
Indifference Curve:
‘The Indifference curve is the locus of different combinations of the two goods, that gives the
consumer same level of satisfaction.
Indifference Curve
Indifference curve is a convex shaped curve slopes downward
from left top to right bottom, as given below.
It is a convex shaped curve based upon the diminishing Marginal
Rate of Substitution.
Good Y | combinations Apple Orange MRS
- 15 ----
10 5A.
3 3/1
2
3 6 4/1
4
5
121/275
Indifference Curve:
The Indifference curve is the locus of different combinations of the two goods, that gives the
tion.
Indifference Curve
Indifference curve is a convex shaped curve slopes downward
from left top to right bottom, as given below.
It is a convex shaped curve based upon the diminishing Marginal
Rate of Substitution.
consumer same level of satisfa
Good Y ]
Ic
Good X Indifference Map:- Group of indifference curves together is known as
indifference map. Each IC shows the different levels of satisfaction. The
Indifference map is based on the assumption that the preferences are
monotonic.
Monotonic Preferences:-A consumer always prefers the bundle which has
more of at least one of the good and no less of the other good, as compared
to the other bundle. A rational consumer always prefers more of a
Good X
BUDGET LINE
Budget line refers to the set of possible combinations of the two goods that a consumer can able to buy which
will be equal to his money income.
122/275
PL XI + P2 X2= Money
BUDGET SET
Budget set refers to all possible combinations of two goods that a consumer is able to purchase which will be
less than or equal to money.
PLX1+P2X2
