U2
Food (units per month)
4
4
©2005 Pearson Education, Inc.
12
20
Chapter 4
Effect of a Price Change
Clothing
10
6 5 4
A
U1
The PriceConsumption Curve traces out the utility maximizing market basket for each price of food
The
quantity demanded increases with income The income elasticity of demand is positive The good is a normal good
©2005 Pearson Education, Inc.
Chapter 4
©2005 Pearson Education, Inc.
Chapter 4
2
1. Individual Demand
Price Changes
Using
the figures developed in the previous chapter, the impact of a change in the price of food can be illustrated using indifference curves For each price change, we can determine how much of the good the individual would purchase given their budget lines and indifference curves
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Chapter 4
16
An Inferior Good
Steak (units per month) 10
U3 …but hamburger becomes an inferior good when the income consumption curve bends backward between B and C. U2 U1
©2005 Pearson Education, Inc.
Income-Consumption Curve C
Both hamburger and steak behave as a normal good, between A and B...
5
B
A
5
10
20
Chapter 4
30
Hamburger (units per month)
Chapter 4
Individual and Market Demand
Topics to be Discussed
Individual Demand
Income and Substitution Effects
Market Demand
Consumer Surplus
Network Externalities
5 3
A B U1
U2
4
©2005 Pearson Education, Inc.
10
16
Chapter 4
Food (units per month)
11
Individual Demand
Income Changes
The income-consumption curve traces out the utility-maximizing combinations of food and clothing associated with every income level An increase in income shifts the budget line to the right, increasing consumption along the income-consumption curve Simultaneously, the increase in income shifts the demand curve to the right
4
8
Chapter 4
12
16
Food (units per month)
19
Engel Curves
Income 30 ($ per month)
Inferior
Engel curves are backward bending for inferior goods.
20
Normal 10
©2005 Pearson Education, Inc.
©2005 Pearson Education, Inc.
Chapter 4
18
Engel Curves
Income 30 ($ per month)
Engel curves slope upward for normal goods.
20
10
©2005 Pearson Education, Inc.
©2005 Pearson Education, Inc. Chapter 4 12
Effects of Income Changes
Clothing (units per month) The Income Consumption Curve traces out the utility maximizing market basket for each income level
17
Individual Demand
Engel Curves
Engel
curves relate the quantity of good consumed to income If the good is a normal good, the Engel curve is upward sloping If the good is an inferior good, the Engel curve is downward sloping
D
B
U3
U2
Food (units per month)
5
4
©2005 Pearson Education, Inc.
12
20
Chapter 4
Effect of a Price Change
By changing prices and showing what the consumer will purchase, we can create a demand schedule and demand curve for the individual From the previous example:
©2005 Pearson Education, Inc.
Chapter 4
8
Effect of a Price Change
Price of Food
$2.00
E
When the price falls, Pf /Pc & MRS also fall
• E: Pf /Pc = 2/2 = 1 = MRS • G: Pf /Pc = 1/2 = .5 = MRS • H:Pf /Pc = .5/2 = .25 = MRS
7
D
U3
Income Consumption Curve
5 3
A B U1
U2
4
©2005 Pearson Education, Inc.
10
16
Chapter 4
Food (units per month)
13
Effects of Income Changes
Price of food
An increase in income, from $10 to $20 to $30, with the prices fixed, shifts the consumer’s demand curve to the right as well.
G $1.00 Demand Curve $.50 H
Food (units per month)
7
4
©2005 Pearson Education, Inc.
12
20
Chapter 4
Demand Curves – Important Properties
The level of utility that can be attained changes as we move along the curve At every point on the demand curve, the consumer is maximizing utility by satisfying the condition that the MRS of food for clothing equals the ratio of the prices of food and clothing
4
8
Chapter 4
12
16
Food (units per month)
©2005 Pearson Education, Inc.
Chapter 4
3
Effect of a Price Change
Clothing
10
Assume: • I = $20 • PC = $2 • PF = $2, $1, $0.50
A
U1
6 5 4
D