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    Consumer Behaviour

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    KalpsYadav
    This document discusses consumer behavior and utility analysis in economics. It introduces two approaches to measuring utility - cardinal and ordinal. The cardinal approach assumes utility can be quantified, while the ordinal approach only ranks preferences. The law of diminishing marginal utility states that as consumption of a good increases, the marginal utility of each additional unit decreases. Indifference curves are used to graphically represent consumer preferences over bundles of goods. The slope of the indifference curve represents the marginal rate of substitution between goods. Consumer equilibrium occurs where the slope of the indifference curve equals the price ratio represented by the budget line.

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    © All Rights Reserved
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    Consumer Behaviour

    Uploaded by

    KalpsYadav
    410 views38 pages
    This document discusses consumer behavior and utility analysis in economics. It introduces two approaches to measuring utility - cardinal and ordinal. The cardinal approach assumes utility can be quantified, while the ordinal approach only ranks preferences. The law of diminishing marginal utility states that as consumption of a good increases, the marginal utility of each additional unit decreases. Indifference curves are used to graphically represent consumer preferences over bundles of goods. The slope of the indifference curve represents the marginal rate of substitution between goods. Consumer equilibrium occurs where the slope of the indifference curve equals the price ratio represented by the budget line.

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    This document discusses consumer behavior and utility analysis in economics. It introduces two approaches to measuring utility - cardinal and ordinal. The cardinal approach assumes utility can be quantified, while the ordinal approach only ranks preferences. The law of diminishing marginal utility states that as consumption of a good increases, the marginal utility of each additional unit decreases. Indifference curves are used to graphically represent consumer preferences over bundles of goods. The slope of the indifference curve represents the marginal rate of substitution between goods. Consumer equilibrium occurs where the slope of the indifference curve equals the price ratio represented by the budget line.

    Copyright:

    © All Rights Reserved
    Download as PPT, PDF, TXT or read online from Scribd
    Download as ppt, pdf, or txt
    410 views38 pages

    Consumer Behaviour

    Uploaded by

    KalpsYadav
    This document discusses consumer behavior and utility analysis in economics. It introduces two approaches to measuring utility - cardinal and ordinal. The cardinal approach assumes utility can be quantified, while the ordinal approach only ranks preferences. The law of diminishing marginal utility states that as consumption of a good increases, the marginal utility of each additional unit decreases. Indifference curves are used to graphically represent consumer preferences over bundles of goods. The slope of the indifference curve represents the marginal rate of substitution between goods. Consumer equilibrium occurs where the slope of the indifference curve equals the price ratio represented by the budget line.

    Copyright:

    © All Rights Reserved
    Download as PPT, PDF, TXT or read online from Scribd
    Download as ppt, pdf, or txt
    of 38

    CONSUMER BEHAVIOUR AND ANALYSIS

    UTILITY : EXTENT OF OF SATISFACTION OBTAINED FROM THE


    CONSUMPTION OF GOODS AND SERVICES PREFERRED
    BY CONSUMERS

    APPROACHES
    CARDINALIST APPROACH : Utility can be measured in subjective terms
    or it is quantifiable.

    ORDINAL APPROACH : Utility cannot be measured but only ranked in


    Order of preference.

    CARDINAL APPROACH Law of Diminishing marginal


    Utility
    TOTAL UTILITY : Total satisfaction enjoyed from the
    consumption of the good.
    MARGINAL UTILITY : Rate of change in total utility per unit
    charge in the quantity of the good
    consumed.
    Change in total Utility
    1 unit change in Quantity Consumed

    LAW OF DIMINISHING MARGINAL UTILITY


    Marginal Utility of any good tends to decline as we consume more
    Units of it over a definite period of time. The diagramatic
    representation is as follows.

    Law of Diminishing Marginal Utility


    Total Utility
    40
    30
    20

    Total Utility

    10
    0
    0

    Pints of
    Beer
    0
    1
    2
    3
    4
    5
    6
    7

    TU MU
    0
    10
    18
    24
    28
    30
    30
    29

    10
    8
    6
    4
    2
    0
    -1

    Utility
    Economists use the term utility to describe the satisfaction or
    enjoyment derived from the consumption of a good or service. If
    we assume that consumers act rationally, this means they will
    choose between different goods and services so as to maximize
    total satisfaction or total utility.
    Consumers will take into consideration
    How much satisfaction they get from buying and then consuming
    an extra unit of a good or service
    The price that they have to pay to make this purchase
    The satisfaction derived from consuming alternative products
    The prices of alternatives goods and services

    Experiment 2
    Consumers go shopping with Rs 2500 in hand each
    Measure of satisfaction (UTILS)
    Items Available
    Price
    Cons 1
    Cons 2
    Branded Jeans
    Herbal cosmetics
    Pizzas
    Fancy Watches
    Hamburgers
    AJewellery

    1000
    200
    150
    500
    100
    500

    EQUILIBRIUM CONDITION LAW OF EQUI MARGINAL


    UTILITY
    Going by the assumption of rationality consumer attains equilibrium
    Only when he uses that bundle of goods which gives him the highest
    level of satisfaction
    Suppose a consumer spends his income in purchasing 3 goods
    X1, X2, X3 with respective prices of P1, P2 &P3 the consumer will
    allocate his income between the three goods in such a way that the
    Marginal utility per Rs he spends on every good is equalised and his
    total utility is maximised. Eg if here are n number of goods
    MU/P1=MU/P2=MU/P3..=MUn/Pn=Mum
    If MU1/P1>MU2/P2 then the rational consumer will consume more
    of X1 till MUI/P1=MU2/P2

    Assumptions
    The principle of equi-marginal utility is based on the following assumptions:
    (a) The wants of a consumer remain unchanged.
    (b) He has a fixed income.Marginal utility of money is constant
    (c) The prices of all goods are given and known to a consumer.
    (d) He is one of the many buyers in the sense that he is powerless to alter the
    market price.
    (e) He can spend his income in small amounts.
    (f) He acts rationally in the sense that he want maximum satisfaction
    (g) Utility is measured cardinally. This means that utility, or use of a good,
    can be expressed in terms of units or utils. This utility is not only comparable
    but also quantifiable.

    CRITICISMS OF UTILITY THEORY


    Some economists claim that utility cannot be measured objectively. There are also
    doubts about the assumption of rational behaviour among consumers - particularly in a
    world where consumers cannot expect to have all the information available on the
    products available in a market.
    The importance of consumer feedback
    In standard price theory, the preferences of consumers are taken as fixed - yet we
    observe that consumer's behaviour in a market is often influenced by their interaction
    with other consumers and this then affects demand.

    A good example of this is the behaviour of consumers who attend showings of a new
    film to a cinema. Their reaction to a film will often determine how many other people
    choose to pay to watch the same film. Consumer feedback may be more significant than
    any amount of hype and advertising before a film is released
    .
    Another good example is the feedback of consumers who visit a local restaurant or
    feedback from people who have stayed at a particular holiday resort. Their experiences
    may exert a significant influence on the preferences and choices of other consumers. It is
    little wonder that many successful firms trace some of their success at their willingness
    and ability to respond pro-actively to consumer feedback.

    Derivation of the demand curve


    Eqiulibrium condition of the consumer is given as
    MU =MUmP1
    If P1 falls it automatically implies that MU should fall for equilibrium
    to be restored
    Furthermore it is evident that MU can decrease only if Quantity
    demanded increases
    p1
    p2

    mu1
    mu2
    mu3

    p3
    q1 q2

    q3

    q1

    q2

    q3

    Therefore when price of good falls consumer will buy more of the good
    To equate marginal utility to lower price. Hence the inverse relationship
    Between price & quantity

    ILLUSTRATION
    1)

    ASSUME THAT UTILITY CAN BE MEASURED IN RS. FROM THE UTILITY SCHEDULE
    GIVEN BELOW.FINO HOW MANY COKES THE CONSUMER WOULD CONSUME AT THE
    PRICE OF RS. 9 PER COKE.
    COKES
    1
    2
    3
    4
    5

    TOTAL UTILITY
    30
    45
    54
    59
    59

    MU
    0
    15
    9
    5
    0

    EQUILIBRIUM IS REACHED AT A LEVEL WHERE MU = P i.e. WHEN 3 COKES ARE CONSUMED


    2)

    A CONSUMER HAS AN INCOME OF RS. 19 FOR A WEEK. HE WOULD LIKE TO SPENO ALL
    THE RS. 19 ON THREE GOODS X, Y & Z. PRICES OF X, Y & Z ARE RS. 5, RS. 3 AND RS. 1.
    THE MARGINAL UTILITY SCHEDULE IS SHOWN BELOW.

    UNITS

    MARGINAL

    UTLITIES

    MuX

    MuY

    MuZ

    Px

    Py

    Pz

    30

    18

    25

    15

    20

    15

    1.33

    EQUILIBRIUM IS REACHED WHEN

    MU = 5 WHERE THE CONSUMER 2 UNITS OF X,


    P

    2 UNITS OF Y AND 3 UNITS OF 2.


    ALLOCATION OF EXPENDITURE

    GOOD - X
    GOOD - Y
    GOOD - Z
    TOTAL

    QTY
    2
    2
    3

    X
    x
    x
    x

    PRICE
    5
    3
    1

    = EXPENDITURE
    =
    10
    =
    6
    =
    3
    19

    4 x 5 = 20
    3x3= 9
    5 x 1= 5
    34

    A FAMILY HAS A MONTHLY BUDGET OF RS. 340 FOR CHEESE, FISH AND HEAT PREVAILING
    PRICES ARE RS. 20/ KG CHEESE , RS. 40/KG FISH AND RS. 50/ KG MEAT.
    UTILITY SCHEDULE IS SHOWN BELOW
    CONS
    CHEESE
    FISH
    MEAT
    70
    130
    170
    205
    230
    250
    260

    1
    2
    3
    4
    5
    6
    7

    80
    160
    210
    250
    285
    315
    335

    160
    290
    410
    510
    590
    650
    680

    WHAT IS THE MAXIMUM TOTAL UTILITY THAT CAN BE ATTAINED


    CONS
    1
    2
    3
    4
    5
    6
    7
    TU

    170 +

    CHEESE
    MU
    MU/ P

    MU

    MU / P

    MU

    MU / P

    70
    60
    40
    35
    25
    20
    10

    80
    80
    50
    40
    35
    30
    20

    2. 0
    2. 0
    1. 25
    1. 00
    0. 875
    0. 75
    0. 5

    160
    130
    120
    100
    80
    60
    30

    3. 2
    2. 60
    2. 40
    2. 00
    1. 60
    1. 20
    0. 6

    160

    3. 5
    3. 0
    2. 0
    1. 75
    1. 21
    1. 00
    0. 5
    +

    510 = 840

    FISH

    MEAT

    CONSUMER SURPLUS
    Consumers surplus is defined as the difference between what a
    Consumer is willing to pay and what we actually pays.
    p
    A
    PP

    ILLUSTRATION

    p1

    p2

    r1 r2

    q1 q2

    APPLICATION

    D
    Consumers
    N surplus

    p1
    p0

    A
    E

    Producers
    surplus
    q1

    Dead weight loss


    dD
    e
    e
    B
    a
    D1
    q0

    RATIONALE BEHIND THE THEORY


    KEY QUESTION
    CAN ONE ACTUALLY MEASURE UTILITY CARDINALLY ?
    DOES MONEY POSSESS CONSTANT MARGINAL UTILITY ?
    IS IT PRAGMATIC TO ADOPT AN OBJECTIVE VALUATION
    OF A SUBJECTIVE CONCEPT ?
    BIRTH OF THE INDIFFERENCE CURVE ANALYSIS IT IS

    MORE REALISTIC TO RANK YOUR PREFERENCE


    THAN MEASURE YOUR SATISFACTION

    DEFINITION INDIFFERENCE CURVE IS THE LOCUS OF


    POINTS OF PARTICULAR COMBINATION OR BUNDLES OF
    GOODS WHICH YIELD THE SAME SATISFACTION TO THE
    CONSUMAR SO THAT HE IS INDIFFERENT AS TO THE
    PARTICULAR COMBINATION HE CONSUMES.

    ASSUMPTIONS
    RATIONALITY
    ORDINALITY
    DIMINISHING MRS
    CONSISTENCY & TRANSITIVITY OF CHOICE,

    A > B, THEN B />A, IF A>B, and B>C


    Then A>C

    A DISCUSSION ON THE CONCEPT SLOPE


    SLOPE OF THE IC CURVE MARGINAL RATE OF
    SUBSTITUTION BETWEEN X & Y
    MRSxy AMOUNT OF Y A CONSUMER IS WILLING TO
    GIVE UP FOR AN ADDITIONAL UNIT OF X
    = MUx / MUy

    MATHEMATICALLY IT IS THE SLOPE OF A TANGENT AT


    ANY POINT ON THE IC = - dy / dx (negative)
    SLOPE OF THE BUDGET LINE PRICE RATIO OF THE
    TWO COMMODITIES X & Y = - Px / Py

    Qy

    DOWNWARD SLOPING IC CURVE


    10

    F
    dy

    MRSxy

    MRS<1

    2
    1
    0.5

    G
    H I

    dx

    IC1

    6
    4
    2

    Qx
    2

    10

    SLOPE OF THE IC CURVE AT F =MRSxy at F(Mux/Muy)


    WHERE CONSUMER IS WILLING TO SACRIFICE 2UNITS
    OF Y FOT 1 UNIT OF X

    BUDGET 10

    A Y/Py

    Y=Px.qx +Py .qy

    LINE

    8
    SLOPE=-OA/OB= -Y/Py/Y/Px
    =-Px/Py

    Assume Y = Rs 10
    Px = 1, Py =1 then budget
    line will be as depicted

    4
    2
    0

    B
    10

    Y/Px

    Shifts in budget line

    Fall in price of x

    A`

    Fall in price of y

    B
    Y/py`
    Y/py

    B`
    Rise in income

    INDIFFERENCE MAP
    Qy

    Higher Indifference curves give more satisfaction


    As more of both goods X and Y are consumed

    IC3
    IC2
    IC1

    Qx

    Qy
    Py

    CONSUMER EQUILIBRIUM

    IC3
    IC2
    IC1
    Px

    Qx

    At point E the slope of the indifference curve is tangential to the


    Slope of the budget line= MRSxy = Px/Py

    Properties of indifference curves


    1. Diminishing MRS
    5
    4
    3
    2
    11

    6
    5
    4
    3
    2
    1

    MRS=1

    1 2 3 4 5

    2. Two IC
    Curves do not
    intertsect

    1 2 3
    Qy

    A
    B

    MRS>1

    IC2
    IC1

    4 5 6

    3. IC curve is downward
    sloping
    P
    R

    B
    O

    Qx

    10

    Some exceptionsQy
    SUBSTITUTES

    COMPLEMENTS

    6
    4
    2
    2 4
    Qy

    6 8 10

    Qx

    Only Y is consumed
    D

    Qy

    Either X or Y is
    consumed

    D
    K
    Qx

    Qx

    Qy

    Only X is consumed

    Qx

    INCOME EFFECT
    A2
    A1

    A
    e2
    e

    e1

    ICC

    IC3
    IC2
    IC1
    B

    B1

    B2

    Price effect

    Pcc
    IC3
    IC2
    IC1
    x B1

    B1

    B2

    PRICE EFFECT =INCOME EFFECT +SUBSTITUTION EFFECT

    Q
    A
    C
    e

    e2
    e1

    IC2
    IC1

    x1 x2

    B1

    B
    Price effect (xx2) = IE (x1x2) + SE (xx1)

    Demand for Q1(n)

    SE
    rises

    IE
    rises

    PE
    rises

    Demand for Q2( I)

    falls

    falls

    falls

    Demand for Q3(G)

    rises

    falls

    falls

    Giffen good = Negative income effect outweighs positive


    Substitution effect

    PRICE EFFECT =INCOME EFFECT +SUBSTITUTION EFFECT


    SLUTSKYS MEASURE
    Q
    A
    C
    e

    e2
    e1

    IC3
    IC2
    IC1

    x1 x2

    B1

    B
    Price effect (xx2) = IE (x1x2) + SE (xx1)

    Derivation of the demand


    curve

    Pcc

    OA/OB=Y/Y/px
    =px

    IC3
    IC2
    IC1
    Price

    p1
    p2
    p3

    x B1

    B1

    B2

    d1
    d2

    d3

    D
    Quantity

    Mathematical Derivation of the slope of IC curve


    U=f(xy)=k
    Total differential of utility function is
    dU= U/ y dy+ U/ x dx
    = (Muy)dy +(Mux)dx
    Total change in U is caused by changes in y&x approximately
    Equal to change in y * Muy + change in x* Mux
    Along an IC curve total differential=0
    dU=(Muy)dy +(Mux)dx=0
    Rearranging we get
    -dy/dx=MUx/MUy = MRS x,y OR
    -dx/dy=MUy/MUx = MRS y,x OR

    Slope of budget line


    Y= pxqx + py.qy (income constraint)
    Solving for qy we get the equation of budget line as
    Pyqy = - px qx + Y
    qy=-Px/Py.qx+Y/py
    Slope of this line qy/ qx =Px/Py

    Consumer has a monthly budget of Rs 1000. The prices of X &Y good


    He consumes is Rs 10 /Kg of X and 15/ltr of Y. His utility function is
    His utility function is U=(XY+X+Y). Find the optimum spending on
    good X&Y.
    MUx/MUy=Px/Py
    MUx= U/ x =Y+1
    MUy= U/ y= X+1
    Px=10
    Py=15
    Consumer maximises his utility by equating
    MUx/MUy=Px/Py
    Y+1/X+1=10/15
    15Y+15=10X +10
    10X=15Y+5

    Given budget of 1000


    Px.qx+Py.qy=1000
    10x+15y=1000
    15y+5+15y=1000
    30y=995
    Y=995/30
    =33.17
    X=50.25
    Optimum spending on good
    X =50.25*10= 502.50
    Y=33.17*15=497.50

    Demand function for product Y


    We see that at equilibrium
    (Y+1)/(X+1) =10/py
    10x +10= Py(Y+1)
    X= Py(Y+1)-10
    10
    Given the budget constraint of Rs 1000
    Px.X+Py.Y =1000
    10. Py(Y+1)-10 +Py.Y =1000
    10
    Py(Y+1)-10 +Py.Y = 1000
    Py.y +PY+PY=1010

    2Py.Y +Py = 1010


    Py(2y+1) = 1010
    Py =1010/2Y+1 = Demand function

    GOVERNMENT POLICIES

    Income

    Supplementary
    income

    A
    Z
    L

    Cost of
    subsidy

    e3
    e

    e2
    m

    I2
    I1

    K
    O

    X1 X3

    X2

    B`

    X
    food

    Critique
    Can a consumer order his preferences as precisely and rationally
    As the theory implies?
    Can the effect of advertising, of past behaviour(habit),of
    Interdependence of consumer preferences be ignored?
    Does this theory establish the shape of an IC curve or is it just
    assumed?
    CONCLUSION
    Why do we study consumer behaviour indepth?
    Answer lies in the fact that market demand is a summation
    Of individual demand hence the examination of the behaviour of
    the consumer which in turn derives the individual demand curve
    Becomes important for a business manger to plan/alter production

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