CONSUMER BEHAVIOR AND UTILITY MAXIMIZATION
Pertemuan 17
Matakuliah : J0114-Teori EkonomiTahun : 2009
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Law of Diminishing Marginal Utility
Terminology– Utility is the benefit or satisfaction a person receives from consuming a good or a services– Total Utility is total amount of of satisfaction or pleasure a person derives from consuming some specific– Marginal Utility is the extra satisfaction aconsumer realizes from and additional unit of that product
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Law of Diminishing Marginal Utility
0
10
20
30
1086420
-2
1 2 3 4 5 6 7
1 2 3 4 5 6 7
To
tal
Uti
lity
(U
tils
)M
arg
ina
l U
tili
ty (
Uti
ls)
(1)Tacos
ConsumedPer Meal
(2)Total
Utility,Utils
(3)MarginalUtility,Utils
0
1
2
3
4
5
6
7
0
10
18
24
28
30
30
28
]]]]]]]
10
8
6
4
2
0
-2
TR
MU
Total Utility
Marginal Utility
Units Consumed Per Meal
Units Consumed Per Meal
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Theory of Consumer Behavior
• Consumer Choice and Budget Constraint– Rational Behavior– Preferences– Budget Constraint– Prices
• Utility Maximizing Rule– Allocate Money Income so that Last
Dollar Spent on Each Product Yields the Same Marginal Utility
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Theory of Consumer BehaviorNumerical Example:Utility-Maximizing Combination of Products A and B Obtainable with an Income of $10
(1)Unit of
Product
(a)MarginalUtility,Utils
(a)MarginalUtility,Utils
(b)Marginal
UtilityPer Dollar(MU/Price)
(b)Marginal
UtilityPer Dollar(MU/Price)
(2)Product A:Price = $1
(3)Product B:Price = $2
First
Second
Third
Fourth
Fifth
Sixth
Seventh
10 10 10 10
8 8 24 12
7 7 18 9 16 8
Final Result – At These Prices, Purchase 2 of Item A and 4 of B
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Theory of Consumer BehaviorAlgebraic Restatement:
MU of Product A
Price of A
MU of Product BPrice of B=
8 Utils$1
16 Utils$2
=
Optimum Achieved - Money Income is Allocated so that the Last Dollar Spent on Each Product Yields the Same Extra or Marginal Utility
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Pri
ce
of
Pro
du
ct
B
0
1
2
4 6Quantity Demanded of B
Deriving the Demand Curve
Same Numeric Example:
$2
1
4
6
Price Per Unit of B
QuantityDemanded
DB
Income Effects
Substitution Effects
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Applications and Extensions
• DVDs and DVD Players
• The Diamond-Water Paradox
• The Value of Time
• Medical Care Purchases
• Cash and Noncash Gifts
O 19.3
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Indifference Curve Analysis• Budget Line (Constraint)
– Income Changes– Price Changes
2 4 6 8 10 12
Qu
anti
ty o
f A
6
8
10
12
4
2
0
Quantity of B
Units of A(Price = $1.50)
Units of B(Price = $1)
TotalExpenditure
8
6
4
2
0
0
3
6
9
12
$12
12
12
12
12(Attainable)
(Unattainable)
Income = $12PA = $1.50
Income = $12PB = $1
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Indifference Curve Analysis• What is Preferred
– Downsloping– Convex to Origin– Marginal Rate of
Substitution (MRS)
2 4 6 8 10 12
Qu
anti
ty o
f A
6
8
10
12
4
2
0
Quantity of B
Combination Units of A Units of B
j
k
l
m
12
6
4
3
2
4
6
8
j
k
lm
I
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Indifference Curve Analysis• The Indifference Map• Equilibrium Position at Tangency
2 4 6 8 10 12
Qu
anti
ty o
f A
6
8
10
12
4
2
0
Quantity of B
I1
I2
I3
I4
X
W
Preferred – But RequiresMore Income
MRS = PB
PA
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Derivation of the Demand Curve
• Measurement of UtilityP
rice
of
B
$1.50
1.00
.50
1 2 3 4 5 6 7 8 9 101112Quantity of B
Marginal Utilityof A
Marginal Utilityof B
Price of A Price of B=X
2 4 6 8 10 12
Qu
anti
ty o
f A
6
8
10
12
4
2
0
Quantity of B
I2
I3
DB
At $1 Price for B, 6 Units are PurchasedRecord the ResultsAs Price of B Increases to $1.50,Only 3 Units of B are BoughtRecord the ResultsConnect the Points toCreate the Demand Curve
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