Indifference Analysis

Indifference analysis Indifference curves

Constructing an indifference curve Pears Oranges Point 30 24 20 14 10 8 6 6 7 8 10 13 15 20 a b c d e f g Combinations of pears and oranges that Clive likes the same amount as 10 pears and 13 oranges

Constructing an indifference curve Pears Oranges Point 30 24 20 14 10 8 6 6 7 8 10 13 15 20 a b c d e f g Pears Oranges

Constructing an indifference curve Pears Oranges Point 30 24 20 14 10 8 6 6 7 8 10 13 15 20 a b c d e f g Pears Oranges

Constructing an indifference curve Pears Oranges Point b 30 24 20 14 10 8 6 6 7 8 10 13 15 20 a b c d e f g Pears Oranges

Constructing an indifference curve Pears Oranges Point b 30 24 20 14 10 8 6 6 7 8 10 13 15 20 a b c d e f g c Pears d e f g Oranges

Deriving the marginal rate of substitution (MRS) 6 MRS = 4 DY = 4 26 7 b DX = 1 MRS = Y/X Units of good Y Units of good X

Deriving the marginal rate of substitution (MRS) DY = 4 26 b DX = 1 MRS = Y/X Units of good Y MRS = 1 c DY = 1 d 13 14 9 DX = 1 6 7 Units of good X

An indifference map I4 I5 I2 I3 I1 Units of good Y Units of good X

The impossibility of two indifference curves crossing Units of good Y a b I1 Units of good X

The impossibility of two indifference curves crossing Units of good Y a b I2 I1 Units of good X

The impossibility of two indifference curves crossing Units of good Y a c b I2 I1 Units of good X

Indifference analysis Budget lines

A budget line Units of good X 5 10 15 Units of good Y 30 20 10 5 10 15 Units of good Y 30 20 10 Assumptions PX = £2 PY = £1 Budget = £30

A budget line a Units of good Y Units of good X Units of good X 5 10 5 10 15 Point on budget line a Units of good Y 30 20 10 Units of good Y Assumptions PX = £2 PY = £1 Budget = £30 Units of good X

A budget line a b Units of good Y Units of good X Units of good X 5 10 5 10 15 Units of good Y 30 20 10 Point on budget line a b b Units of good Y Assumptions PX = £2 PY = £1 Budget = £30 Units of good X

A budget line a b Units of good Y c Units of good X Units of good X 5 5 10 15 Units of good Y 30 20 10 Point on budget line a b c b Units of good Y c Assumptions PX = £2 PY = £1 Budget = £30 Units of good X

A budget line a b Units of good Y c d Units of good X Units of good X 5 10 15 Units of good Y 30 20 10 Point on budget line a b c d b Units of good Y c Assumptions PX = £2 PY = £1 Budget = £30 d Units of good X

Effect of an increase in income on the budget line Units of good Y Assumptions PX = £2 PY = £1 Budget = £30 Units of good X

Effect of an increase in income on the budget line Assumptions PX = £2 PY = £1 Budget = £40 Units of good Y n m 16 7 Budget = £40 Budget = £30 Units of good X

Effect on the budget line of a fall in the price of good X Assumptions PX = £2 PY = £1 Budget = £30 Units of good Y Units of good X

Effect on the budget line of a fall in the price of good X Assumptions PX = £2 PY = £1 Budget = £30 Units of good Y Units of good X

Effect on the budget line of a fall in the price of good X Assumptions PX = £1 PY = £1 Budget = £30 Units of good Y Units of good X

Effect on the budget line of a fall in the price of good X Assumptions PX = £1 PY = £1 Budget = £30 Units of good Y B2 B1 b c Units of good X

Indifference analysis The optimal level of consumption

Finding the optimum consumption Units of good Y O Units of good X

Finding the optimum consumption Units of good Y I5 I4 I3 I2 I1 O Units of good X

Finding the optimum consumption Units of good Y Budget line I5 I4 I3 I2 I1 O Units of good X

Finding the optimum consumption r v s u Units of good Y t Y1 X1 I5 I4 I3 I2 I1 O Units of good X

Indifference analysis Effects of a change in income

Effect on consumption of a change in income Units of good Y a B1 I1 O Units of good X

Effect on consumption of a change in income Units of good Y I2 B1 B2 I1 O Units of good X

Effect on consumption of a change in income Units of good Y I4 I3 I2 B1 B2 B3 B4 I1 O Units of good X

Effect on consumption of a change in income Income-consumption curve Units of good Y I4 I3 I2 B1 B2 B3 B4 I1 O Units of good X

Deriving an Engel curve from an income-consumption curve Bread I3 I2 I1 B1 B2 B3 CDs

Deriving an Engel curve from an income-consumption curve Bread Income-consumption curve I3 I2 I1 B1 B2 B3 CDs

Deriving an Engel curve from an income-consumption curve Bread Income-consumption curve I3 I2 I1 B1 B2 B3 CDs Income (£) CDs

Deriving an Engel curve from an income-consumption curve Bread Income-consumption curve Qb1 a I3 I2 I1 B1 B2 B3 Qcd1 CDs Income (£) CDs

Deriving an Engel curve from an income-consumption curve Bread Income-consumption curve Qb1 a I3 I2 I1 B1 B2 B3 Qcd1 CDs Income (£) Y1 a Qcd1 CDs

Deriving an Engel curve from an income-consumption curve Bread Income-consumption curve Qb2 b Qb1 a I3 I2 I1 B1 B2 B3 Qcd1 Qcd2 CDs Income (£) Y2 b Y1 a Qcd1 Qcd2 CDs

Deriving an Engel curve from an income-consumption curve Bread Income-consumption curve Qb3 c Qb2 b Qb1 a I3 I2 I1 B1 B2 B3 Qcd1 Qcd2 Qcd3 CDs Y3 c Income (£) Y2 b Y1 a Qcd1 Qcd2 Qcd3 CDs

Deriving an Engel curve from an income-consumption curve Bread Income-consumption curve Qb3 c Qb2 b Qb1 a I3 I2 I1 B1 B2 B3 Qcd1 Qcd2 Qcd3 CDs Engel curve Y3 c Income (£) Y2 b Y1 a Qcd1 Qcd2 Qcd3 CDs

Effect of a rise in income on the demand for an inferior good Units of good Y (normal good) a B1 I1 O Units of good X (inferior good)

Effect of a rise in income on the demand for an inferior good b Units of good Y (normal good) I2 a B1 I1 B2 O Units of good X (inferior good)

Effect of a rise in income on the demand for an inferior good Income-consumption curve b Units of good Y (normal good) I2 a B1 I1 B2 O Units of good X (inferior good)

Indifference analysis Effects of a change in price

Effect of a fall in the price of good X Assumptions PX = £2 PY = £1 Budget = £30 Units of good Y Units of good X

Effect of a fall in the price of good X Assumptions PX = £2 PY = £1 Budget = £30 Units of good Y j B1 Units of good X

Effect of a fall in the price of good X Assumptions PX = £1 PY = £1 Budget = £30 Units of good Y j B1 Units of good X

Effect of a fall in the price of good X Assumptions PX = £1 PY = £1 Budget = £30 k Units of good Y j B1 I1 B2 Units of good X

Effect of a fall in the price of good X Price-consumption curve I2 k Units of good Y j B1 I1 B2 Units of good X

Deriving a demand curve from a price-consumption curve Expenditure on all other goods B1 Units of good X

Deriving a demand curve from a price-consumption curve B2 I2 Fall in the price of X a b Expenditure on all other goods I1 B1 Units of good X

Deriving a demand curve from a price-consumption curve Further falls in the price of X B2 I2 a b Expenditure on all other goods I1 B1 Units of good X

Deriving a demand curve from a price-consumption curve Further falls in the price of X a b Expenditure on all other goods c d I4 I3 I2 I1 B1 B2 B3 B4 Units of good X

Deriving a demand curve from a price-consumption curve b Expenditure on all other goods c d I4 I3 I2 I1 B1 B2 B3 B4 Units of good X

Deriving a demand curve from a price-consumption curve b Price-consumption curve Expenditure on all other goods c d I4 I3 I2 I1 B1 B2 B3 B4 Units of good X a P1 Price of good X Q1 Units of good X

Deriving a demand curve from a price-consumption curve b Price-consumption curve Expenditure on all other goods c d Q3 Q4 I4 I3 I2 I1 B1 B2 B3 B4 Units of good X Demand a P1 Price of good X P2 b P3 c P4 d Q1 Q2 Units of good X

Indifference analysis Income and substitution effects of a change in price: (a) normal good

Income and substitution effects: normal good Units of good Y f I1 I2 I3 I4 I5 I6 QX1 Units of Good X

Income and substitution effects: normal good Rise in the price of good X B2 h Units of good Y f I1 I2 I3 I4 I5 B1 I6 QX3 QX1 Units of Good X

Income and substitution effects: normal good B1a Substitution effect of the price rise g h Units of good Y f I1 I2 I3 I4 I5 B2 B1 I6 QX3 QX2 QX1 Units of Good X Substitution effect

Income and substitution effects: normal good Income effect of the price rise g h Units of good Y f I1 I2 I3 I4 I5 B2 B1a B1 I6 QX3 QX2 QX1 Units of Good X Income effect Substitution effect

Indifference analysis Income and substitution effects of a change in price: (b) inferior good

Income and substitution effects: Inferior (non-Giffen) good Units of good Y f I1 I2 QX1 Units of Good X

Income and substitution effects: Inferior (non-Giffen) good Rise in the price of good X B2 Units of good Y f h I1 I2 B1 QX3 QX1 Units of Good X

Income and substitution effects: Inferior (non-Giffen) good B1a Substitution effect of the price rise g Units of good Y f h I1 I2 B2 B1 QX2 QX1 Substitution effect Units of Good X

Income and substitution effects: Inferior (non-Giffen) good Income effect of the price rise g Units of good Y f h I1 I2 B2 B1 B1a QX2 QX3 QX1 Substitution effect Units of Good X Income effect

Indifference analysis Income and substitution effects of a change in price: (c) Giffen good

Income and substitution effects: Giffen good Units of good Y I1 I2 QX1 Units of Good X

Income and substitution effects: Giffen good Rise in the price of good X B2 f Units of good Y I1 h B1 I2 QX1 QX3 Units of Good X

Income and substitution effects: Giffen good B1a Substitution effect of the price rise g f Units of good Y I1 h B2 B1 I2 QX2 QX1 QX3 Substitution effect Units of Good X

Income and substitution effects: Giffen good Income effect of the price rise g f Units of good Y I1 h B1a B2 B1 I2 QX2 QX1 QX3 Substitution effect Units of Good X Income effect

Indifference analysis Characteristics theory

Choice between brands: characteristics approach Quantities of any one of three brands that can be purchased for a given budget at current prices: Brand 1 is chosen QA1 x1 Brand 3 Quantity of characteristic A x2 x3 I5 I4 I3 I2 I1 QB1 Quantity of characteristic B

Choice between brands: characteristics approach Effect of reductions in the price of Brand 2: Brand 2 is now chosen x1 Brand 3 Quantity of characteristic A QA5 x5 x4 x2 x3 I5 I4 I3 I2 I1 QB5 Quantity of characteristic B