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Utility
Utility
A quantitative measure of
satisfaction that consumers from
engaging in economic activity.
• Utility is a useful fiction
• Utility is ordinal; its cardinal
measure is meaningless.
Marginal Utility
How total utility changes with a change in economic
activity.
∆Total Utility
∆TU TU New − TU Old
=
=
X New − X Old
∆Consumptio n
∆X
Law of Diminishing Marginal Utility
Law of Diminishing Marginal Utility states that
with each additional consumption unit, the
consumer enjoys less satisfaction than the
previous consumption unit.
i.e., you like ice cream, but you don’t want a
tone.
Demand
Law of Demand
There is a negative relationship between
quantity and price.
This negative relationship between price and
quantity reflects the law of diminishing marginal
utility. With each additional unit, the consumer is
willing to consume only at lower prices.
Price- Quantity Space
The Demand Curve
Change in Quantity Demand
Notes for Change in Quantity
Demand
Demand Function:
Quantity=f(Price, Pc+s, Income, Tastes)
• When there is a change in the quantity
demanded, only price changes.
• Pc+s, Income and Tastes remain constant.
Increase in Demand
Decrease in Demand
Notes on Changes in Demand
• A change in demand holds price constant
and changes Pc+s, Income and Tastes.
• A change in demand shifts the curve.
• There is a complex relationship between
the direction that the demand curve shifts
and Pc+s and Income.
• An increase in demand shifts the demand
curve the right, a decrease to the left.
Supply
• The supply curve rests on the assumption
that producers will produce more at higher
prices.
• The supply curve also indicates that for
producers to produce more, they must pay
higher costs to draw resources away from
alternative activities. Therefore, at higher
quantities, it is more expensive to produce.
Law of Supply
• The supply curve has a positive slope.
Q=f(price, price of inputs, resources,
technology)
The Supply Curve
Change in Quantity Supplied
Notes on Changes in Quantity
Supplied
• When there is a change in the quantity
supplied, only price changes.
• Price of inputs, resources and technology
remain constant.
Increase in Supply
Decrease in Supply
Notes on Supply Changes
• A change in supply holds price constant
and changes the price of inputs, resources
and technology.
• A change in supply shifts the curve.
• An increase in supply shifts the supply
curve the right, a decrease to the left.
• Note: Do not think of shifting the supply or
demand curve up or down, only right and
left.
Equilibrium
Equilibrium represents:
• A point of rest
• Market clears
• No tendency to change unless an
exogenous factor changes.
• Exogenous factors: Pc+s, Income, Tastes
and preferences, price of inputs, resources
and technology.
The Process
1.
2.
3.
4.
Exogenous change
Which curve is influenced?
Which direction is the curve influenced?
What happens to price and quantity?
Examples, Demand Increase
Results of an increase in demand?
• Price increases
• Quantity increases
Examples, Demand Decrease
Results of an decrease in demand?
• Price decreases
• Quantity decreases
Examples, Supply Increase
Results of a supply increase?
• Price declines
• Quantity Increases
Examples, Supply decrease
Results of a supply decrease?
• Price increases
• Quantity Decreases