chap 9 Flashcards
(17 cards)
budget line
describes the limits to the household’s consumption choices.
Budget Equation
The budget equation states that
Expenditure = Income
calculating the budget line
Call the price of cola PC, the quantity of cola QC, the price of a movie PM, the quantity of movies QM, and income Y.
Lisa’s budget equation is: PCQC + PMQM = Y.
Divide both sides of this equation by PC, to give:
QC + (PM/PC)QM = Y/PC
Then subtract (PM/PC)QM from both sides of the equation to give:
QC = Y/PC – (PM/PC)QM
real income
Y/PC is Lisa’s real income in terms of cola.
income expressed as a quantity of goods the household can afford to buy.
relative price
PM/PC is the relative price of a movie in terms of cola.
the magnitude of the slope of the budget line.
A Change in Income affecting budget line
An change in money income brings a parallel shift of the budget line.
The slope of the budget line doesn’t change because the relative price doesn’t change.
A Change in Prices and budget line
A rise in the price of the good on the x-axis decreases the affordable quantity of that good and increases the slope of the budget line.
indifference curve
a line that shows combinations of goods among which a consumer is indifferent.
which points are preferred on the indifference curve?
All the points on the indifference curve are preferred to all the points below the indifference curve.
And all the points above the indifference curve are preferred to all the points on the indifference curve.
marginal rate of substitution
measures the rate at which a person is willing to give up good y to get an additional unit of good x while at the same time remain indifferent (remain on the same indifference curve).
Marginal rate of substitution calculation
The magnitude of the slope of the indifference curve measures the marginal rate of substitution.
diminishing marginal rate of substitution
a general tendency for a person to be willing to give up less of good y to get one more unit of good x, while at the same time remaining indifferent as the quantity of good x increases.
The consumer’s best affordable choice is
On the budget line
On the highest attainable indifference curve
Has a marginal rate of substitution between the two goods equal to the relative price of the two goods
price effect.
The effect of a change in the price of a good on the quantity of the good consumed is called the price effect.
income effect
The effect of a change in income on the quantity of a good consumed is called the income effect.
as income decreases what happens to the demand consumption of a good?
decreases
as price falls what happens to the budget line
The budget line rotates outward.
and demand increases
