Institute Of Economic Theories University Of Miskolc Hungary

Institute Of Economic Theories - University Of Miskolc - Hungary Microeconomics Lecture 2 Mónika Kis-Orloczki Assistant lecturer

The analyses of consumers’ behaviour § Behaviour of households is a synonym to consumers’ behaviour § Household: A collective of cohabiting people, who make own decisions according to some order and tolerate the consequences together. § The decisions are influenced by: § § § Needs Income Price 2

Consumers’ decisions § The goal: To maximize the satisfaction of needs maximisation of utility. § Utility: the satisfaction derived from a consumption of a good. § The cardinal utility analysis: § The consumer is able to measure the utility in cardinal numbers. § Goods are comparable. § The utility of some goods is not a function of another good’s utility. 3

Total Utility (TU) Total utility (TU): The whole utility feeling gained by consuming a given amount of goods. U Fullness point 1 2 3 4 5 X 4

Marginal utility (MU): The change in the utility resulting from the consumption of a subsequent piece of goods. 5

Caracteristics of Utility § The more consumed quantity is, the more total utility is § The contribution of all the pieces of goods to the total utility shows diminishing tendency in the order of consumption. Hypothesis of diminishing marginal utility = Gossen’s First Rule § At a point fullness occurs, after consuming a number of products, the total utility is not growing, but decreasing § At the Fullness Point TU is at the maximum and MU=0 6

The optimum of consumption § In case of one good: until the fullness point § In case of 2 goods Theory of Equalization of Utilities Optimal consumption: MUx = MUy 7

Analysis of consumers’ preferences Axioms of preference ordering § Completeness: any 2 consumption bundles can be compared with each other § Reflexivity: the consumer can identify the consumption bundles and their utility § Transitivity : if utility. A>utility. B and utility. B>utility. C then utility. A >utility. C 8

Indifference curves § An indifference curve represents the points of those consumption bundles in the system of coordinates of two goods, which have the same utilities and they ensure the same consumption/utility level. § The indifference/preference map shows all the indifference curves in this system of coordinates. It represents the consumer’s preference ordering system. 9

Illustration of indifference curves 10

Characteristics of indifference curves § One can not intersect the other, § Drawing away from the origin the indifference curves represent higher utility levels, § The slope is always negative, § The normal indifference curves are convex to the origin. 11

Irregular indifference curves Perfect substitutes Perfect complements Neutral goods Goods with fullness point or harmful goods 12

Rate of Substitution § Rate of Substitution (RS): Represents the ratio of changing quantities of “x” for “y”, or the slope of the chord between two points (“A” and “B”) of the indifference curve. It means: 13

Marginal Rate of Substitution (MRS) Y A B C MRS § Marginal Rate of Substitution (MRS): Shows the rate at which the consumer is just willing to substitute one good(x) for another (y), not changing his Total Utility It is the slope of the curve in a tangential point (“A” or U “B”). RS X

The budget constraint § Consumption bundles: a combination of goods or services that a consumer typically buys together § The budget constraint means the points that represent those goods combinations, which are still purchasable in the coordination system of – ordinary two – goods and the money runs out fully. 15

The budget line § Recomposing: § The slope of the curve: Y I/Py I (budget line) I/Px X 16

Change in the income of consumers The line moves parallel, the slope will not change. Y I : original income I 1/Py I 1: increasing income I/Py I 2: decreasing income I 2/Py I 2/Px I 1 I I/Px I 1/Px X 17

Change in the prices of the goods There will be a change in the slope of the budget line Y I : original price I 1: decreased price of good x (Px 1) I/Py I 2: increased price of good x (Px 2) I 2 I/Px 2 I 1 I I/Px 1 X 18

Institute Of Economic Theories - University Of Miskolc - Hungary Microeconomics Lecture 3 Mónika Kis-Orloczki Assistant lecturer

The consumer’s optimal choice Gossen’s Second Rule Point B is the optimal combination of the two goods Y max=I/Py A B C U 2 U 1 I X max=I/Px 20

The changes of income and the optimal consumption § Conditions of examination: § Unchanged preference systems § Unchanged prices § Changing income 21

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Income consumption curve (ICC) and the Engel curve § ICC curve: represents the points which show the connection between the changing income and the optimal consumption in a two-goods coordination system. § Engel curve: show the connection between the consumer’s income and the consumption of a good x. 23

§ Increasing income optimal consumption is on those indifference curves that represent higher and higher utility level. § Normal goods: slope of both ICC and Engel curve is positive 24

The relation among the consumption of inferior good and the changing income 25

Inferior goods § Inferior good: the consumption of which is decreasing as the income raises. § The consumer gets on higher utility level, but the inferior good’s consumption becomes less and less. § The steepness of ICC and of Engel curve is negative 26

The relation among changing prices and demand § The conditions of examination: § Unchanged preference system § Unchanged income § Only one good’s price is changing, the others are not. 27

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Price Consumption Curve (PCC) § PCC : represents the points of changing consumption in the case of changing price in the two goods coordination system § Normal goods: increasing price of x, decreasing consumed amount of x. § Influence of changing price (Px)on the other product decreasing Px, the consumed amount of good y: § can be increasing if the goods are substitutes. § can be decreasing if the goods are complements. § If a price raises, the consumption gets on an indifference curve which represents lower utility level. 29

Individual demand curve § Individual demand curve: points which show the connection between the changing price and consumption of the good x. § The slope of the demand curve is negative in the case of normal goods so if the price is increasing, demand is decreasing § BUT!! If the slope of the demand curve is positive PARADOX PRICE EFFECT 30

Paradox price-effect § Quality-effect: higher quality=higher price. § Speculation-effect: If the prices are increasing, we count on a further increase, so we will buy more. § Veblen-effect: the prestige goods § Giffen-effect: The demand of good x will be higher beside of increasing price, if the price of the substitute product is increasing more. 31

Market demand curve § Market demand curve is the horizontal sum of the individual demand curves. § Horizontal because we are curious of the quantity of goods that the consumers are willing to buy. (quantity on horizontal axis) § The more consumers on the market, the flatter the market demand curve is. 32

The market demand curve 33

Elasticity 1. Income elasticity 2. Price elasticity 3. Cross-price elasticity 34

1. Income elasticity § The elasticity of the income: shows the ratio of the percental changes in income and demand. § It shows that how many percentage changes the demand, if the income of a consumer changes with one percentage 35

Elasticity of income § Normal goods § Inferior goods § Luxury goods § Every-day consumption goods 36

2. Elasticity of price § The elasticity of price shows the ratio of the percental changes in price and demand. § It shows that how many percentage changes the demand, if the price of a good changes with one percentage 37

. Elasticity of price § Normal goods § Paradox price effect § Non-elastic demand § Elastic demand 38

3. Cross-price elasticity § Cross-price elasticity: shows the ratio of the percental changes in one good’s price and another’s demand. § It shows that how many percentage changes the demand x, if the price of a good y changes with one percentage 39

Cross-price elasticity § Complement goods § Substitute goods § Indifferent goods 40