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Flashcards in Consumer Theory II Deck (28)
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1
Q

What does the Utility Function, U(x, y), imply?

A

It implies the Consumer only cares about Goods x and y, nothing else
-Both Goods must be consumed to gain Utility

2
Q

Denote the Price of x + the Price of y

A

Price of x = Px

Price of y = Py

3
Q

What is the Budget Constraint equation?

A

Budget = Px(x) + Py(y)

4
Q

What is the MRS and how do you calculate it?

A

MRS- Marginal Rate of Substitution shows the Slope of the Indifference Curve
MRS = dy/dx

5
Q

At the Optimum Consumption Bundle, what is the Slope of the Budget Constraint equal to?

A

MRS

6
Q

how do you find the optimum level of Consumption for goods x and y?

A

Find the Slope of the Budget Constrain (B.C)-
—dU = ydx + xdy = 0
Equate MRS and Slope of B.C, MRS = Slope
Rearrange in terms of y and Sub. back into B.C

7
Q

What does Marginal Utility tell us?

A

It tells us What the Gain in Utility is if we Increased Consumption of the Good by a small amount

8
Q

What happens to Utility if you change the amount of each Good you Consume?

A

You can Consume different amounts of the Goods, BUT you Stay on the SAME Indifference Curve
So, Change in Utility, dU, is 0

9
Q

What do you use to find the Total Change in Utility?

A

Partial + Total Derivatives

10
Q

What does [dU(x, y) / dx] x dx show?

A

dU if x changes (a little), keeping y constant

Marginal Utility of x

11
Q

What does [dU(x, y) / dy] x dy show?

A

dU if y changes (a little), keeping x constant

Marginal Utility of y

12
Q

What is the Equation for the Total Change in Utility?

A

dU(x, y) = Marginal Utility of x dx + Marginal Utility of y dy
dU(x, y) = [dU(x, y) / dx] x dx + [dU(x, y) / dy] x dy
dU(x, y) = MUx dx + MUy dy

13
Q

Given that you remain on the same Ic, show that the Change in Utility = -MUx/MUy

A
dU(x, y) = MUx dx + MUy dy
If you remain on same Ic--> Change in Utility = 0
=> dU(x, y) = 0=> 0 = MUx dx + MUy dy
=>MUx dx = -MUy dy
dy/dx = MRS = -MUx/MUy
14
Q

If Income Increases, what happens to the Ic for a Normal Good?

A

B.C + Ic Shift Outwards- to the Right

Can Consume more of Both Goods

15
Q

If Income Increases, what happens to the Consumption of an Inferior Good?

A

B.C Shifts Outwards- to the Right
Ic Shifts Left- But is on NEW B.C
—Consume less of Good x (Inferior Good)
Consume more of y and less of x

16
Q

What are the 2 effects on the Law of Demand?

A

Income + Substitution effects

17
Q

What happens to the B.C if the Price of Good x falls?

A

B.C rotates about Py- M/Px moves along x axis

18
Q

What does a Change in the Price of a Good cause?

A

Change in Choice of Consumption

19
Q

What does Px/Py show?

A

How expensive Good x is relative to Good y

Tells us our Incentive to Substitute x for y- e.g. Increase x + Decrease y

20
Q

What does M/Px tell us?

A

Tells us Income in REAL Terms of Good x
-Shows how our Income Changes
Fall in Price of Good x–> Increase REAL Income in terms of Good x

21
Q

How does a fall in the Price of x of a Normal Good affect the B.C + Ic? Explain effects of Income + Substitution effects

A

Fall in Price of x–> M/Px moves along x axis
Intermediate Step: Line Tangent to Ic1 but parallel to B.C2
–Where this line is a Tangent to Ic1- shows Consumption after impact of Substitution effect
Where B.C2 is tangent to Ic2- shows final Consumption + Income effect from Intermediate Step

22
Q

What does the Substitution effect depend on?

A

Depends ONLY on Price Change

23
Q

What does the Income effect depend on?

A

Depends ONLY on fact REAL Income Increases

24
Q

For an Inferior Good, which out of the Substitution + Income effects is Positive + Negative?

A

Substitution- POSITIVE

Income- Negative

25
Q

What are Giffen Goods?

A

Goods where Consumption Increases as Price Increases

26
Q

Why may Price Increases lead to Increased Consumption?

A

Increased Price may mean Increased Quality

e.g. iPhone

27
Q

What happens to the B.C with Increased Cash compared to Free Goods?

A

Cash- Shifts B.C Outwards completely
Free Goods- Shift B.C Out by value of Free Good ONLY for Good it is applicable to
If Free Good for Good x is worth 5- M/Py remains same, M/Px–> M/Px + 5

28
Q

What is the Utility Function of Goods consumed together, e.g. Left + Right Glove, and what is the Shape of the Ic?

A

min{x, y} = x + y

Ic at Right Angles