CH 7&8 Flashcards
(23 cards)
Utility
A measure of satisfaction a person gets from something
Utility is determined by an individual’s
Preferences
Revealed preference
The idea that people’s preferences can be determined by observing their choices and behavior
Utility function
A formula for calculating the total utility consuming a unique combination / bundle
Total Utility example
Total utility = (4 × slices of pizza) + (2 × sodas) + (1 × garlic knots)
= 14
Marginal utility
The change in total utility from consuming one additional unit
Budget constraint
A line that represents all possible combinations a consumer can buy with his/her income.
Slope of budget constraint
Px / Py
Budget constraint line may shift due to
- Changes in income
- Changes in price
Changes in income
Budget line shifts outward.
Changes in price
Budget constraint rotates.
Indifference curve
A curve showing all the different consumption bundles that provide a consumer with an equal level of utility
The absolute value of slope of indifference curve reflects
Marginal rate of substitution (MRS)
Marginal rate of substitution (MRS)
The rate at which an individual is willing to trade or substitute between the two goods, holding utility constant.
Points on higher IC represent
and
Points on lower IC represent
- higher levels of utility
- lower levels of utility
Income effect
A change in consumption that results from a change in the effective wealth due to higher or lower prices
Substitution effect
A change in consumption that results from a change in the relative price of goods
Behavioral economics
A field of economics that draws insights from
psychology to expand models of individual decision making
Time inconsistency
When we change our minds about what we want (i.e., preferences) simply because of the timing of the decision.
Commitment device
Mechanism that allows people to voluntarily restrict their choices in order to make it easier to stick to plans
Sunk-cost fallacy
When one considers sunk costs when making a decision
Undervaluing opportunity cost
When making decisions the alternatives are sometimes not readily apparent
Something is fungible when
It can be easily exchanged or substituted
