ECON 251 Purdue (Distance Learning) Chapter 7 Study Guide

-describes the limits to its consumption choices -consumption choices are limited by income and by prices -a change in the price of goods -->>> changes the slope of the budget line -a change in consumer's income -->>> shifts the budget line -budget line slope= the relative price of good x

-goods that can be bought in any quantity desired -for example, gas and electricity

-Expenditure=Income=Y -Expenditure=the sum of the price of each good multiplied by the quantity bought -

-the household's income expressed as a quantity of goods the household can afford to buy -Y/Ps

-the price of one good divided by the price of another good -relative price is an opportunity cost

-the benefit or satisfaction that a person gets from the consumption of a good or service -a household's preferences can be described by marginal utility

-the total benefit that a person gets from the consumption of goods and services -depends on the level of consumption- more consumption generally gives more total utility -the more we own of something, the larger its total utility

-the change in total utility that results from a one-unit increase in the quantity of a good consumed -the more we own of something, the smaller its marginal utility -(the change in utility)/(the change in quantity) -if the marginal utility per dollar for good A exceeds that for good B, total utility increases if the quantity purchased of good A increases and the quantity purchased of good B decreases

-the decrease in marginal utility as the quantity of the good consumed increases

-a consumer derives utility form the goods consumed -each additional unit of consumption yields additional total utility- marginal utility is positive -as the Q of a good consumed increases, marginal utility decreases -a consumer's aim is to maximize total utility -total utility is maximized when all the available income is spent and when the marginal utility per dollar is equal for all goods -predicts the law of demand. If all things remaining the same, the higher the price of a good, the smaller is the quantity demanded of that good -predicts that, other things remaining the same, the larger the consumer's income, the larger is the quantity demanded of a normal good

-a situation in which a consumer has allocated all his or her available income in the way that, given the prices of goods and services, maximizes his or her total utility -consumer maximizes his or her utility -more consumption -->>> more utility -->>> only those choices that exhaust income can maximize utility -(MU1/P1)=(MU2/P2) -If P1>P2, then MU1>M2

-the marginal utility from a good divided by its price

-when a consumer maximizes utility, he or she is using resources efficiently -marginal utility theory resolves the paradox of value -when we talk loosely about value, we are thinking of total utility or consumer surplus.

But the price is related to marginal utilty

-asks why the price of water is low (large consumer surplus) and the price of diamonds are high (small consumer surplus), but water is essential to life while diamonds are not -is resolved by distinguishing between total utility and marginal utility

-a good that demand increases as income increases

-she is trying to achieve the goods and services that she prefers above all other combinations of goods and services that she can afford -she is at her best affordable point -->> the consumer spends all of her income and is on her highest attainable indifference curve