Consumer equilibrium and Demand

S.MADAN KUMAR M.A.,B.Ed.,M.Phil.,M.B.A.,

Utility

• Utility is the power or capacity of a commodity to satisfy human wants .

• Utility is subjective and cannot be measured quantitatively ,yet for convenience sake,it is measured in units of pleasure or utility called utils

Marginal utility

• Marginal utility is the additional utility derived from consumption of an additional unit of a commodity

• MUn=TUn-TUn-1

Total utility

• Total utility is the sum of all the utilities derived from consumption of an additional unit of a commodity.

• Relationship between Marginal and Total utility

1.TU increases so long as MU is more than zero

2.TU is maximum when MU is zero

3.TU starts declining when MU becomes negative.

Relation between MU and TU

Units of oranges consumed

Marginal utility (utils)

T0otal utility(utils)

0 - 0

1 10 10

2 8 18

3 5 23

4 2 25

567

10-3

262623

Law of diminishing Marginal Utility

• As more and more units of a commodity are consumed ,marginal utility derived from each successive unit goes on falling

TU MU AU

Consumer’s Equilibrium

• Consumer’s equilibrium means a situtation under which he spends his given income on purchase of a commodity in such a way that gives him maximum utility and he feels no urge to change

Two approaches of CE

• Utility analysis approach –Marshall-cardinal• Indifference curve approach-Prof.J.R.Hicks-Ordinal

Condition of consumer’s equilibrium

• 1.Consumer’s equilibrium in case of a single commodity through utility approach

MU of a product =price of product

MU of a rupee

2.In case of two commodities

MU x = MU y

Consumer’s equilibrium through Indifference curves

• Marshall’s analysis is confined to a single good model whereas Hicks takes into account combination of two commodities and expresses ‘level of satisfaction’ instead of utility

Budget line

• A combination of amounts of two goods will b called a bundle.

• The set of bundles available to the consumer is called budget set

• Budget line is the graphic presentation of all the bundles which a consumer can actually buy with his entire income at the prevailing market prices

Budget line P1X1+P2X2=M

• Slope of Budget Line : it is negatively sloped ,the slope of budget line is equal to ratio of prices of two goods

• Shift of Budget line: Consumer income• Budget constraint: consumer can afford to spend within

his given income and prevailing prices

Indifference cure

• An indifference curve is a curve which shows all those combination of two goods that give equal satisfaction to the consumer

Properties of IC

• 1.indifference curves always slope down from left to right

• 2.Higher indifference curves represents higher level of satisfaction.

• 3.indifference curves are always convex to the origin because MRS of two goods continuously falls

• 4.IC cannot touch or intersect each other

Assumptions

• The consumer behaves rationally.• The consumer can rank bundles on the basis of

satisfaction• Price of goods and income are given• A consumer’s preferences are monotonic( consumption of

more quantity of a good means more satisfaction)

MRS

• It measures the consumer’s willingness to pay for one goood in terms of the other good.it is because consumer’s preference for goods is such that he is willing to give up some amount of one good for an extra amount of the other without affecting his total utility

Consumer’s equilibrium under 4 conditions

• When marginal rate of substitution is equal to ratio of prices of two goods i.e MRS =Px/Py

• MRS is continuously falling• Budget line should be tangent to indifference curve• Indifference curve should be convex to the point of

origin.

Consumer’s equilibrium

• In the graph the equilibrium point at which budget line AB just touches the higher attainable IC2 within consumer budget at H .here both the conditions are filled simultaneously .mind ,bunddles on the higher IC3 are not affordable because his income does not permit whereas bundles on the lower IC1 gives lower level of satisfaction than at IC2.Hence the equ chice is only at the tangency point P

Demand

• Demand for a particular good by A consumer means the quantities of the good that he is willing to buy at different prices within a given period of time

Factors determining demand

• Price of commodity • Prices of related good – substitute goods, complementary

goods• Income of the consumer- a)Normal goods b)Inferior good• Tastes and preferences of the conumer

Law of demand

• Other things being constant, quantity demanded of a commodity is inversely related to the price of the commodity

Demand schedule- a tabular presentation of quantities demanded at different prices

Price of sugar per kg in Rs. Quantity Demanded Kg

20 2

16 3

12 4

84

56

Demand curve- graphical representation of demand schedule

Assumption of law of demand

• No change in the income of the consumer• No change in the taste ,preferences and habits of the

consumer• No change in the number of family members ,weather

etc.,

Exceptions to the law of demand

• Inferior goods or giffen goods• Goods expected to become scarce or costly in future• Status symbol goods• Fashion• Necessities• Emergency• Future change in price

Why does demand curve sloping downward ?

• Law of diminishing marginal utility• Income effect• Substitution effect• Number of consumers• Different uses of a commodity

Change in demand

• Expansion of demand- downward movement along a demand curve

• Contraction of demand- upward movement along a demand curve

the above changes occurs due to price• Increase in demand-rightward shift in demand curve• Decrease in demand-leftward shift in demand curve

The above changes is due to other than price of commodity

Individual demand and market demand

• Individual the quantity of a commodity which an individual is willing to buy at different prices in a given period of time

• Market demand is the sum of demand by all buyers of a commodity at a given period

Individual and market demand curve

Elasticity of demand

• Price elasticity of demand• Income elasticity of demand• Cross elasticity of demand

Degree of price elasticity of demand

• Perfectly inelastic demand –ed=0• Unit elastic demand – ed=1• inElastic demand- ed<1• Elatic demand- ed>1

Perfectly inelastic demand

Inelastic demand

Elastic demand

Perfectly elastic

Thank you

• Any questions