The Indifference Curve Approach

• Change in Budget LineChange in Budget Line

• Consumer’s Equilibrium

• Price Effect

• Giffen Good Paradox

• Applications of the Indifference Curve Approach

What will be Covered?What will be Covered?

A Change in the A Change in the Money Money IncomeIncome.

Y

X0

Tell Me the Change When...

I

A Change in the A Change in the Relative Relative PricePrice.

Y

X0

Tell Me the Change When...

PxPx

Y

X0

E

D

C

Which Point Is the Equilibrium?

E

Y

X0

E

The The Tangency PointTangency Point Between the Budget Between the Budget Line and the Line and the Indifference Curve of Indifference Curve of the Highest the Highest Attainable Utility Attainable Utility LevelLevel

Y

X0

A Different Level of Utility A Different Level of Utility

Consumes on a New Consumes on a New Budget LineBudget Line

S.E. + I.E.S.E. + I.E.Px Decreases

Y

X0

A Change in Consumption A Change in Consumption After a Change in Relative After a Change in Relative Price of Two GoodsPrice of Two Goods

Consumes on a Consumes on a Hypothetical Budget LineHypothetical Budget Line

No Change in the Utility No Change in the Utility LevelLevel

Px Decreases

Y

X0

An Inferior GoodAn Inferior Good

Consumes on a New Consumes on a New Budget LineBudget Line

Consumes Less XConsumes Less X

An Increase in the Utility An Increase in the Utility LevelLevel

Px DecreasesPx Decreases

Y

X0

A Normal/ Superior GoodA Normal/ Superior Good

Consumes on a New Consumes on a New Budget LineBudget Line

Consumes More XConsumes More X

An Increase in the Utility An Increase in the Utility LevelLevel

Px DecreasesPx Decreases

Still Remember the Law of Demand?

Px/Py Of An

Inferior Inferior GoodGood

Will Consume More X

So What?

Px/Py

X0

We Will We Will Have An Have An Upward- Upward- SlopingSloping Demand Demand CurveCurve

There Is A Theoretical Or Logical Possibility to Refuse The Law

The Law

of

Demand

Therefore the Law of Demand Is Therefore the Law of Demand Is AssertedAsserted

The Law Has Not Been RejectedThe Law Has Not Been Rejected

Theory by Its Hypothetical Nature Theory by Its Hypothetical Nature Cannot Reject Another TheoryCannot Reject Another Theory

Only Empirical Facts Can Reject a Only Empirical Facts Can Reject a TheoryTheory

As There Is No Observations of Giffen As There Is No Observations of Giffen Good Cases, The Law Is ConfirmedGood Cases, The Law Is Confirmed

Left Shoes

Right Shoes

Are They SUBSTITUTES Or COMPLEEMNTS?

Which IC Can Correctly Show Their Relationship?

Left Shoes

Right Shoes

What Is the Result of a S.E.?

Tea

Coffee

Are They SUBSTITUTES Or COMPLEEMNTS?

Which IC Can Correctly Show Their Relationship?

TeaTea

Tea

Coffee

What Happens If The MRSc < MRSe?

We only consume Tea!

TeaTea

Budget LineBudget Line

Y

X0

Money Income

0 Food

Lump Sum Payment

How Much Would You Consume In a Regular

Restaurant?

How Much Would You Consume In a Buffet

Dinner ?

Money Income

0 Children

Children Are Less Preferred Today!

Money Income Has Been Money Income Has Been IncreasingIncreasing

You Have Less Children!