Download Consumer Behavior

ECONOMICS:
EXPLORE & APPLY
by Ayers and Collinge
Chapter 16
“Consumer Behavior”
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©2004 Prentice Hall Publishing
Ayers/Collinge, 1/e
Learning Objectives
1. Discuss how the income effect and
substitution effect lead to a downward
sloping demand curve.
2. Explain why marginal utility
diminishes.
3. Practice the step by step utilitymaximizing process.
4. Apply the rule of utility maximization .
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©2004 Prentice Hall Publishing
Ayers/Collinge, 1/e
Learning Objectives
5. Relate utility maximization to the
demand curve.
6. Summarize the influences on consumer
choices.
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©2004 Prentice Hall Publishing
Ayers/Collinge, 1/e
16.1
THE LAW OF DEMAND REVISITED
• Demand slopes downward according to the law of
demand.
• The law is demand is caused in part by the
substitution effect.
• The substitution effect of a price change, which
occurs when a lower price on a good causes a person
to buy more of that good instead of alternative
goods.
• Likewise, the substitution effect of increasing the
price of a good would drive consumers to buy more
of the substitute good instead of the good with the
increased price.
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Ayers/Collinge, 1/e
The Law of Demand Revisited
o For a normal good, the income effect of a
price change will also cause demand to
slope down.
o The income effect occurs when the price
change affects consumer purchasing
power, termed real income, and thus
leads to a change in quantity demanded.
o A higher price reduces real income, while
a lower price increases real income.
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Ayers/Collinge, 1/e
16.2
UTILITY AND CONSUMER
SATISFACTION
Consumers buy in order to obtain utility, which
is the satisfaction received from the
consumption of a good.
The utility that people gain from their
purchases is subjective, varying from person to
person.
Utility is not measurable, since satisfaction is
not measurable.
Utility does not imply that a good is useful.
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Total and Marginal Utility
Although utility is not measurable, it can be
modeled as though it were, using the util as its
unit of measure.
Total utility equals the sum of the utils a person
receives from consuming a specific quantity of
a good.
Marginal utility equals the increments to total
utility from changes in consumption.
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Total and Marginal Utility
Marginal Utility =
Change in total utility
Change in number of
units consumed
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©2004 Prentice Hall Publishing
Ayers/Collinge, 1/e
Total and Marginal Utility
Utils
150
Marginal
utility
100
Total
Utility
50
0
First Slice
Second Slice
Pizza
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Ayers/Collinge, 1/e
Diminishing Marginal Utility
The law of diminishing marginal utility
decrees that the first unit of a good is
most satisfying, after which additional
units provide progressively less and less
additional utility.
There is a satiation point, beyond which
additional consumption actually reduces
utility.
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Diminishing Marginal Utility
When marginal utility is negative we say that
a good provides disutility, which occurs
beyond the satiation point.
The total utility curve rises as long as
marginal utility is a positive number.
When marginal utility equals zero, the total
utility curve peaks because total utility is at
its maximum value.
The total utility curve turns downward when
marginal utility becomes negative.
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Ayers/Collinge, 1/e
Total and Marginal Utility
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©2004 Prentice Hall Publishing
Ayers/Collinge, 1/e
Total and Marginal Utility
Utility
Satiation point
Utility
Total Utility is
maximized when
marginal utility is
zero.
Satiation point
©2004 Prentice Hall Publishing
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16.3
MAXIMIZING UTILITY SUBJECT TO A
BUDGET CONSTRAINT
 The budget constraint, a consumer’s income, curbs
the amount of total utility that can be obtained.
 Consumers must choose, while striving to spend
their incomes so as to obtain the greatest
satisfaction from their incomes.
 Consumers maximize utility subject to their
budget constraint.
 Utility maximization is achieved when the
consumer’s choices provide the greatest amount of
total utility for a specific amount of time.
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Spending at the Margin
• When marginal utility is divided by the
prices of goods and services, the result is
called marginal utility per dollar.
• The rule of utility maximization is…
– To maximize utility, a consumer adjust
spending until the marginal utility from the
last dollar spent on each good is the same.
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Algebraic Statement of the Utility
Maximizing Rule
Marginal Utility of X
=
Price of X
Marginal Utility of X
Price of Y,
for all goods X and Y
If the marginal utility per dollar of product X is greater
than the marginal utility per dollar of product, consumers
should purchase more of product X.
Conversely, if the marginal per dollar of product Y is greater
than the marginal utility of product Y, consumers should
purchase more of product Y.
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Utility Maximizing
DENISE’S PREFERENCES FOR MOVIES AND BOTTLED WATER
[Price of movie ticket = $3; Price of water = $1 per bottle; Income = $15 per week]
1
2
3
4
5
Number of
Marginal Utility
Movie
Marginal Utility
per dollar for
Number of Marginal Utility of
Tickets
of Movies
movies (Marginal Bottles of
Bottled Water
Bought
(in utils)
Uitlity/Price) Water Bought
(in utils)
1
30
10
1
8
2
27
9
2
7
3
24
8
3
6
4
18
6
4
5
5
8
2.67
5
4
6
1
0.33
6
3
6
Marginal Utility
per dollar for
bottled water
(Marginal
8
7
6
5
4
3
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Ayers/Collinge, 1/e
Utility Maximization and Demand
When consumers maximize utility their
individual demand curves for a good are
downward sloping.
In other words, the quantity demanded of a
good will change in the opposite direction to a
change in its price.
The law of diminishing marginal utility is
another explanation for the downward sloping
demand curve.
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Ayers/Collinge, 1/e
Utility Maximization and Demand
A LOWER PRICE FOR MOVIE TICKETS INCREASES
MARGINAL UTILITY PER DOLLAR
Number of
Marginal Utility Marginal Utility per
Movie
Marginal Utility per dollar , Price = dollar, Price = $2
Tickets
of Movies
$3 (Marginal
(Marginal
Bought
(in utils)
Uitlity/Price)
Uitlity/Price)
1
30
10
15
2
27
9
13.5
3
24
8
12
4
18
6
9
5
8
2.67
4
6
1
0.33
0.5
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©2004 Prentice Hall Publishing
Ayers/Collinge, 1/e
Utility Maximization and Demand
$
Utility maximization
causes demand to
slope downward.
$3
$2
Denise’s
demand
4
5
Quantity of movies
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Ayers/Collinge, 1/e
16.4 EXPLORE & APPLY
GOOD CHOICE, BAD CHOICE
Consumers account for some 70% of
total spending in the U. s. economy.
Predicting consumer’s choice is difficult
as since they are determined by
numerous considerations.
Time has utility.
People try to allocate their time to attain
the greatest satisfaction, taking into
account time’s opportunity cost.
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Good Choice, Bad Choice
Information also has utility.
The last dollar spent on information should have a
marginal utility per dollar equal to the marginal
utility per dollar of the last dollar spent on the
consumer’s other purchases.
Impulse buyers make purchases on the spur of the
moment without consulting information sources.
Advertising is intended to affect consumer’s choices,
generally with the goal of getting us to buy
something now.
A dollar saved can provide more satisfaction than a
dollar spent.
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Ayers/Collinge, 1/e
Addictive Behavior
Some people make choices that appear to be bad to
others.
Binging behavior like overeating, smoking, binging
on alcohol, drugs, shopping, etc., are examples.
One aspect of addiction problems is that we are
unable to rationally control the things that give us
utility.
A second aspect is “utility in hindsight”, where
immediate gratification comes now, but the disutility
comes later.
The further into the future the disutility, the more we
are inclined to brush it aside.
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©2004 Prentice Hall Publishing
Ayers/Collinge, 1/e
Addictive Behavior:
Utility in Hindsight
Utility
Marginal utility perceived at the time
Point where all money
has been spent
Quantity of binge purchases
Disutility
Marginal utility perceived later
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©2004 Prentice Hall Publishing
Ayers/Collinge, 1/e
Terms Along the Way
substitution effect
income effect
utility
util
total utility
marginal utility
disutility
law of diminishing
marginal utility
satiation point
marginal utility
per dollar
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©2004 Prentice Hall Publishing
Ayers/Collinge, 1/e
Test Yourself
1. When the price of a normal good decreases
a. the income and substitute effects both prompt the
consumer to purchase more of the good.
b. the income and substitute effects both prompt the
consumer to purchase less of the good.
c. the income effect prompts the consumer to
purchase less of the good, but the substitution
effect prompts the consumer to purchase more.
d. the income effect prompts the consumer to
purchase more of the good, but the substitution
effect prompts the consumer to purchase less.
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©2004 Prentice Hall Publishing
Ayers/Collinge, 1/e
Test Yourself
2. Which of the following best describes the
concept of utility?
a. Utility is measurable.
b. The utility of a good must rise the more useful
it is.
c. Utility is subjective.
d. The utility provided by any particular good
will be the same for most consumers.
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©2004 Prentice Hall Publishing
Ayers/Collinge, 1/e
Test Yourself
3. The util is
a. unrelated to the concept of utility.
b. measurable with highly sensitive
electronic equipment.
c. used by economist to to illustrate
diminishing marginal utility .
d. a special kind of money used in
economic experiments.
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Ayers/Collinge, 1/e
Test Yourself
4. Marginal utility will be negative when
the total utility curve is
a. rising.
b. falling.
c. at its maximum.
d. in the negative range.
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Test Yourself
5. Consumer equilibrium requires the consumer
to
a. maximize total utility.
b. maximize marginal utility.
c. purchase amounts of each good so that their
marginal utilities are equal.
d. ignore the price of a good in deciding how
much to consume and consider only the
utility of a purchase.
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©2004 Prentice Hall Publishing
Ayers/Collinge, 1/e
Test Yourself
6. The marginal utility per dollar of a
good equals the goods marginal utility
a. multiplied by $1.
b. divided by $1.
c. divided by the price of the good.
d. multiplied by the price of the good.
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Ayers/Collinge, 1/e
The End!
Next Chapter 16
Appendix
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©2004 Prentice Hall Publishing
Ayers/Collinge, 1/e