CONSUMER’S EQUILIBRIUM INDIFFERENCE CURVE ANALYSIS CLASS 11, CHAPTER 4 | ECONOMICS |
Assumption of Indifference Curve Analysis
- Utility is ranked not measured
- Consumer is rational
- Income of consumer is given and remain constant
- More of a good always gives more satisfaction due to monotonic preference. (IC is driven by monotonic preference)
- Consumer’s preference does not change
- Price of 2 goods are given and remain constant.
It is diagrammatic representation showing attainable combination of to goods which offers the consumer same level of satisfaction so that the consumer is indifferent across all the combinations.
||MRSxy = Delta Y/ Delta X
Here, combination A = B = C = D = E (Same level of satisfaction)
If two or more IC’s are shown in a single diagram then it is known as Indifference map.
Marginal rate of substitution is the rate at which good Y is to be sacrificed for an additional unknit of good X.
Why MRSxy falls?
As more and more units of good X are consumed by the consumer, his intensity of desire for good X becomes less and intensity of desire for good Y increases due to less and less units of good Y. So, consumer sacrifices less and less units of good Y for every additional unit of good X.
Properties of Indifference Curve
1) IC slopes downwards – It slopes downwards because at the same point of time both the goods cannot be consumed, one has to sacrificed for another.
2) It is convex to its origin – It is convex to the point of origin due to fall in MRS. The rate at which good Y is to be sacrificed less and less for consuming an additional unit of good X.
3) Higher IC shows higher level of satisfaction – Higher IC shows higher level of satisfaction due to monotonic preference which means that as consumption increases, satisfaction also increases. IC’s need not be parallel to each other.
4) Two IC never intersect each other – Two IC never intersect each other because indifference curve represents a different level of satisfaction.
5) IC does not touches X axis or Y axis – IC neither touches X axis nor touches Y axis if two goods are consumed, one is always sacrificing for another because consumption of good is not zero.
It means that a consumer always prefers that combination which has either more of both the goods or more of at least one good.
Budget line shows various combination of two commodities on which his total expenditure is equal to his income with given prices of good and income.
Where, M = (Px.qx)+(Py.qy)
Properties of Budget Line
- It slopes downwards because consumer’s income is limited. If a consumer consumes more of good X then he has less of good Y.
- It is a straight line because its slope is constant.
- Its slope is Px/Py
Change in Budget Line
1) Change in income
- When income rises – rightward/upward shift
- When income falls – leftward/downward shift
2) Change in price of commodity
- When price of good X rises – Budget line will rotate to the left on X axis.
- When price of good X falls – Budget line will rotate to right on X axis.
- When price of good Y rises – Budget line will rotate to the left on Y axis. (B1)
- When price of good Y falls – Budget line will rotate to the right on Y axis. (B2)
Consumer Equilibrium Using Indifference Curve Analysis
Consumer’s equilibrium means a situation where consumer’s satisfaction is maximum after spending his given income on the given prices of two commodities.
IC is convex at the point of equilibrium which means MRSxy is declining. The equilibrium is obtained at point E where MRSxy slope of IC) is equals to Px/Py (slope of budget line).
1)WHEN MRSxy > Px/Py – Consumer will buy more of good X than good Y. The consumer will move downward to right along IC to attain equilibrium.
2)WHEN MRSxy < Px/Py – Consumer will buy more of good Y than good X. He will move upward to the left along IC to attain equilibrium.
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