Theory of Consumer Behavior

Chapter 4 possible action of Consumer Behavior Economics 11 UPLB Prep ard by T. B. Paris, Jr. celestial latitude 11, 2007 Theory of Consumer Behavior ? ? ? Useful for understanding the demand side of the market. profit amount of satisfaction derived from the consumption of a commodity . measurement social units ? utils proceeds concepts ? ? cardinal public inferior assumes that we can assign values for utility, (Jevons, Walras, and Marshall). E. g. , derive ascorbic acid utils from eating a slice of pizza ordinal utility advance does not assign values, instead works with a ranking of preferences. P areto, Hicks, Slutsky) sum utility and borderline utility ? ? Total utility (TU) the overall aim of satisfaction derived from consuming a safe or service marginal utility (MU) additional satisfaction that an individual derives from consuming an additional unit of a good or service. ? TU MU = ? Q Total utility and marginal utility Example (Table 4. 1) Q 0 1 2 3 4 5 6 7 TU 0 20 27 32 35 35 34 30 36 MU 20 7 5 3 0 -1 -4 ? ? ? ? TU, in general, increases with Q At some point, TU can sound falling with Q see Q = 6) If TU is increasing, MU > 0 From Q = 1 onwards, MU is declining ? principle of diminishing marginal utility ? As more and more of a good are consumed, the process of consumption will (at some point) yield little and smaller additions to utility Total Utility Curve TU 35 Total utility(in utils) 30 25 20 15 10 5 0 1 2 3 4 5 Quantity 6 Q soma 4. 1 Marginal Utility Curve MU Marginal utility (in utils) 20 15 10 5 0 -5 Figure 4. 2 1 2 3 4 5 6 Quantity Q Consumer counterbalance ? ?So far, we have assumed that any amount of goods and services are always available for consumption In reality, consumers face constraints (income and prices) Limited consumers income or budget ? Goods can be obtained at a price ? nearly simplifying assumptions ? ? ? ? Consumers objective to maximize his/her utility subject to income constraint 2 goods (X, Y) Prices Px , Py are fixed Consumers income (I) is given Consumer Equilibrium ? Marginal utility per peso ? additional utility derived from spending the next peso on the good MU MU per peso = PConsumer Equilibrium ? Optimizing condition MU X MU Y = PX PY ? If MU X MU Y > PX PY ? spend more on good X and less of Y Simple representative ? Suppose X = fishball Y = siomai ? Assume PX = 2 PY = 10 Numerical Illustration Qx 1 2 3 4 5 6 black tie 30 39 45 50 54 56 MUX 30 9 6 5 4 2 MUx Px 15 4. 5 3 2. 5 2 1 QY 1 2 3 4 5 6 TUY 50 105 148 178 198 213 MUY 50 55 43 30 20 15 MUy Py 5 5. 5 4. 3 3 2 1. 5 ? ? 2 potential best positions Combination A ? X = 3 and Y = 4 ? TU = black tie + TUY = 45 + 178 = 223 ? Combination B ? ? X = 5 and Y = 5 TU = TUX + TUY = 54 + 198 = 252 ? Presence of 2 potential equilibrium positions suggests that we study to consider income. To do so let us examine how practically each consumer spends for each conspiracy. Expenditure per combination ? ? Total expenditure = PX X + PY Y Combination A 3(2) + 4(10) = 46 ? Combination B 5(2) + 5(10) = 60 ? Scenarios If consumers income = 46, then the best is given by combination A. .Combination B is not cheap ? If the consumers income = 60, then the optimum is given by Combination B. Combination A is affordable but it yields a lower level of utility ? end