Demand and Utility

Question 1

What is utility?

Answer 1

Benefit and satisfaction

Question 2

What two key factors determine the consumption choices made by households?

Answer 2

Their budget constraint

Their preferences

Question 3

How does the budget constraint affect consumption choices made by households?

Answer 3

Each person has a given amount of money they can spend and sometimes can’t influence price changes made by the sellers.

Question 4

What is total utility (TU)?

What is marginal utility?

Answer 4

The total benefit of satisfaction that a person gets from the consumption of a good or service.
The benefit gained from consuming one additional unit of a good or service.

Question 5

How do you measure marginal utility?

Answer 5

The Change in total utility over the change in quantity

Question 6

What is the law of diminishing marginal utility?

Answer 6

The more I consume of something, the less utility each additional unit will give me, if the consumption of everything else is kept constant.

Question 7

How do you measure TU?

Answer 7

Arbitrary units.

Question 8

What does the gradient of the budget line show us?

Answer 8

The gradient shows us how many units of y I have to give up for one additional unit of x.
It is the boundary between affordable and unaffordable.

Question 9

Where is affordable on the budget line?

Answer 9

On and inside the line.

Question 10

Where is unaffordable on the budget line?

Answer 10

On the outside of the line.

Question 11

What does it mean to be on the inside of the budget line?

Answer 11

You are saving.

Question 12

Is it better to be in or on the budget line?

Answer 12

On because it means you are maximising utility/satisfaction.

Question 13

What is marginal utility on the budget line?

Answer 13

The slope

Question 14

What is total utility on the budget line?

Answer 14

the function (?)

Question 15

What point on budget graph should I be?

Answer 15

1. On the line
2. Marginal utility per dollar spent should be equal
   Mu(a)/P(a) = Mu(b)/P(b) etc.

Question 16

If the marginal utility of hamburgers is greater than the marginal utility of pizza what should you do?
What is this called?

Answer 16

Buy more hamburgers with the money previously used to buy pizza, thus buy less pizza until marginal utility is equal.
This is called the marginal utility theory.

Question 17

What supports the marginal utility theory?

Answer 17

The law of demand because as the price falls you buy more of the good.

Question 18

How can you calculate excess demand/supply?

Answer 18

1. Take the price that is given and sub it into demand/supply function
2. See which one is bigger (D>S shortage, S>D surplus)
3. Subtract one from the other

Question 19

What does it mean if the slope decreases?

Answer 19

The function increases at a decreasing rate

Question 20

What does it mean if MU reaches 0?

Answer 20

TU is horizontal which means its constant. The slope is at max or min.

Question 21

What happens to the graph if there is a change in income?

Answer 21

There is a shift parallel

Question 22

Which way does it shift if income increases?

Answer 22

Up right

Question 23

Which way does it shift if income decreases?

Answer 23

down left

Question 24

What happens if the price of pizza increases?

Answer 24

The relative price decreases

Question 25

What is the slope?

Answer 25

The marginal utility and the relative price

Question 26

What happens when the relative price decreases?

Answer 26

The slope decreases

Question 27

If the marginal utility per dollar spent of x is equal to the marginal utility per dollar spent of y, and the price of x falls, what happens?

Answer 27

The marginal utility per dollar spent of x increases (since its MU/px) and so you should buy more of x and less of y until equality is restored.

Question 28

how do you calculate the gradient of the budget line?

Answer 28

Rise/Run | Px/Py therefore it is relative price

Question 29

How can you calculate MU per dollar spent of the good?

Answer 29

The MU obtained from the last unit of the good, divided by its price.

Question 30

What is the MU/P ratio?

Answer 30

The utility gained when another dollar is spent on the good, or the utility lost when spending on the good is out by a dollar.

Question 31

At a consumer equilibrium what is true?

Answer 31

There is no other affordable choice that would make the individual better off.

Question 32

If you are at consumer equilibrium, would you change purchases?

Answer 32

No, not unless some other factor (prices, preferences, income) changes

Question 33

Why do we not spend all our money on the same goods?

Answer 33

We would completely drive down their marginal utility

Question 34

What are the two parts of budget constraint?

Answer 34

1. Income is limited | 2. You can't always influence the price of goods

Question 35

What does the budget line show us in general?

Answer 35

Describes the limits to the household's consumption choices

Question 36

With what unit do we measure utility?

Answer 36

We use hypothetical units called utils

Question 37

What does the MU theory assume?

Answer 37

That individuals make their spending decisions in such a way as to maximise their total utility. Meaning they make themselves as well off as possible given their resources.

Question 38

Predictions of the MU theory?

Answer 38

When the P of a good rises, the Qd for that good decreases. When the P of a good rises, D of a substitute increases. When income increases, this increases the number of affordable combinations

Question 39

How do you predict the impact of a change in P?

Answer 39

1. Determine the new combinations that use up all of the income at the new prices 2. Calculate the MU per dollar spent 3. Find where the MUs per dollar spent are equal

Question 40

What is the difference between individual demand and market demand?

Answer 40

Individual demand is the relationship between the quantity demanded of a good by a single individual and the price Market demand is the relationship between the quantity demanded of a good and the price. It shows the total quantity demanded of a good by all consumers at each price level. It is a horizontal summation of all the individual demand curves.

Question 41

What is the paradox of value?

Answer 41

The apparent contradiction that although water is more useful than diamonds, diamonds are far more expensive.

Question 42

Explain the paradox of value

Answer 42

Water is more abundant than diamonds and so it costs less. This is explained by the law of diminishing MU. The supply of water is large, this the consumption of water usually takes place at a low MU. TU of water is very high. Therefore there is no need to sacrifice very much for an additional gallon of water. Supply of diamonds is (supposedly) limited so the consumption takes place at a high MU. TU of diamonds is very low.

Question 43

What is value?

Answer 43

The value of one more unit of a good or service is the same thing as its marginal benefit. So willingness to pay.