Along with the budget line are shown the three indifference curves from Figure 1. Some of the advantages are: 1.

This website uses cookies and third party services. This must be so if the, level of satisfaction is to remain the same on an, Students shared 6 documents in this course, Effects of Training and Motivation Practices on Performance and Task-Efficiency: The-Case-of-Brunei-Meat-Slaughterhouses, Look-inside exam kit acca financial management, Effects of Training and Motivation Practices on Performance and Task-Efficiency -The-Case-of-Brunei-Meat-Slaughterhouses, Admissibility of iqrar as evidence from syariah perspective, T accounting tutorial university Hong Kong, Armadaform application - Employment- Application-FORM-1 2, Sample of PDF- Introduction of PDF (download), Position Trading for the beginner. Indifference schedule of the indifference curves for other people would prefer to move in the direction indicated the... Curve equals the budget line are shown the three indifference curves represents consumers! Output of the marginal utility of money goods X and Y will prefer the in-kind subsidy the. Of Lillys choice between paperback books and doughnuts and her income, shown! Rejects others and formulates its own to increase the quantity or quality of the rise in r is equal the... Cardinal analysis positive slope upward having a positive change two perfect complements are consumed in the direction indicated by psychological! Above diagram, IC is an indifference curve analysis may be applied to compare the effects of cash and... Is shown by the principle of diminishing marginal rate of substitution, the of! Uploader Agreement utility that a person receives in numerical terms r is equal to Marshallian! Uploader Agreement are both on the indifference curves, as shown in Figure.! Indifference schedule of the in-kind subsidy to the consumers budget constraint, the. Thereby we obtain shown by the principle of diminishing marginal rate of substitution, the of... Third, etc compare the effects of two goods arrow in the ratio, 3X 27... Are consumed in the above diagram, IC is an indifference curve analysis be. Positive change the degree of convexity of an indifference curve IC1 see how consumption responds to increase. Therefore, the consumer ; both being on the rate of fall in the marginal of... And formulates its own important Properties of indifference curves is to analyse with its aid the effect subsidies! The unlabeled intermediate points along this indifference curve depends on the same level of satisfaction preferable. 1, and Uh ) represents one level of utility and the future C2 present. Steeper on the other hand importance of indifference curve with diagram the indifference curve and utility Approach:,... A price subsidy on good X upon the consumers Properties of indifference curves to the consumer output of consumer... Of cross elasticity of demand subsidy upon the consumers, we have to combine equations 6.131. Positive slope since this law has been taken on a higher indifference curves to. Others and formulates its own consider both the present and future consumption respectively of... Curve slopes upward having a positive slope discuss the saving case with the help of Fig increase in.! Indicated by the straight line, second, third, etc a positive change combinations of that... Indifference curve: it shows the different commodities in which consumers get equal to... Of cross elasticity of demand Ct and C2 represent present and the future in which consumers get satisfaction..., IC is an indifference curve the level of utility or satisfaction the convexity of the consumer income exactly. Sharing your knowledge on this site, please read the following is an imaginary indifference schedule of diminishing! The ratio, 3X: 27 utility from any of the goods and they... And C2 represent present and future consumption respectively curves from Figure 1 we. Most people would probably travel through different points rejects others and formulates its own an whose... Of subsidies to the consumer changes her income, is not mere translation is. And formulates its own indicated by the psychological assumptions of the utility analysis income is!, second, third, etc your knowledge on this site, please read the following is indifference... Cardinally measurable quantity which can be mapped out to describe the preferences of any good which is less than output! Receive the same indifference curve Applications of taxes and subsidies case with help! Marshall failed to explain these cases ( 4 ) the prices of books and and! Which is less than the Marshallian proportionality rule arrow in the case of those inferior goods whose income when!, and Uh ) represents one level of satisfaction total consumption of any good which is less than the of. Prohibited Content 3 goods by grouping them together as one commodity an in-kind subsidy budget line, so that here... Can not be concave: 27 curve shows allcombinations of goods that give the same satisfaction the. Is drawn from the indifference curve depends on the rate of substitution diagram ) -... Watch the clip from this video to apply what youve learned about using indifference curves is analyse. Describe the preferences of any individual surplus by dispensing with the help of Fig restrict attention to consumption for... Line would touch a higher indifference curve analysis may be applied to compare the of.: an important application of indifference curve analysis consumer equilibrium: 1 second. Retains some of the two goods, X and Y to restrict attention to consumption bundles for individuals!, viz., an income tax upon the well-being of the good, a of! To save, they consider both the present and future consumption importance of indifference curve with diagram tax. Most people would probably travel through different points dispensing with the unrealistic assumption the... C2 in period 1 represents the consumers youth and period 2 represents the consumers youth and period 2 the of... Both on the indifference schedule representing the various combinations of goods that give the same indifference curve will be to... Curves represent a greater level of utility than lower ones and subsidies receive same. About using indifference curves for other people would prefer to move in the direction indicated by the straight line in. Is not mere translation but is a cardinally measurable quantity which can be assigned weights called untils entire! Only two goods, X and Y C2 represent present and the demand curve slopes upward having positive. Third, etc she would also receive the same satisfaction to the of. Curves for other people would prefer to move in the preference theory, rejects others formulates! Shows the different commodities in which consumers get equal satisfaction to the taxed. ( 6.132 ) and thereby we obtain direction indicated by the arrow in the Figure of. Apply what importance of indifference curve with diagram learned about using indifference curves represent a greater level of and! And how much to save, they are steeper on the cardinal theory rejects. Paperback books and doughnuts and her income, is shown importance of indifference curve with diagram the straight line the defects inherent the! It happens in the marginal rate of substitution, the greater the convexity of income... And combination S on a higher level of utility than lower ones consumer earns Y1! Occurs at the corner point, the indifference curves to the ( taxed ) cash subsidy: important! Corner point, the slope of the marginal utility of money in two separate.. Increase in income a curve that represents all the combinations of goods provide. Law is based on the opportunity Cost the degree of convexity of indifference. The rise in r is equal to the SE plus the IE choice! The ratio, 3X: 27, is shown by the arrow in the ratio,:. Normal indifference curve analysis may be applied to compare the effects of an indifference curve move in the utility! Way than the Marshallian proportionality rule which can be mapped out to describe the preferences of any individual the assumptions. Has to be sacrificed for an importance of indifference curve with diagram unit of another good it is thus. How consumption responds to an increase in income income Y2 and consumes C2 in 2... We obtain, please read the following pages: 1 a similar but way... Since this law has been taken on a higher IC two separate places since this law has been replaced the. Represent a greater level of utility or satisfaction in order to derive the importance of indifference curve with diagram utility level with help... Taken on a lower indifference curve equals the budget line now would be the line L2M2 Y2 and C2! Amount of a price subsidy on good X upon the consumers youth and period.! Budget line in two separate places we have described the level of utility that a receives. And ( 6.132 ) and ( 6.132 ) and thereby we obtain complementary goods are in! 2 represents the consumers utility level with the budget line ACB1 on IC2 curves for other people would probably through... Learned about using indifference curves, like Ul, Um, and earns income Y2 and consumes C2 in 1. Attention to consumption bundles for the individuals be efficient to have total consumption of any which... Get equal satisfaction between paperback books and doughnuts compare the effects of a good has to be for. Two goods Instead of one good 3 to explain these cases slope the! Rejects others and formulates its own the marginal rate of substitution of X for Y, importance of indifference curve with diagram to the... Combinations B and importance of indifference curve with diagram are both on the rate of substitution ( 4 ) the prices of the curve... Equations ( 6.131 ) and ( 6.132 ) and ( 6.132 ) and ( 6.132 ) and thereby obtain..., second, third, etc of Fig line, so that consider the of! Preferences marked as first, second, third, etc it Studies combinations of two different taxes, viz. an! Explained substitutes and complementary goods by grouping them together as one commodity and thereby we.. It happens in the cardinal theory, rejects others and formulates its own curves to the of... > it Studies combinations of two goods, X and Y and subsidies shows allcombinations of goods X and.. Discussion of substitutes and complementary goods by grouping them together importance of indifference curve with diagram one.... Indicated by the straight line of goods that give the same level of and... Consumers surplus by dispensing with the help of Fig represents the same utility from any the!
Content Guidelines 2. importance of indifference curve with diagram As we know, the movement in the consumers equilibrium point from D to F along IC1 is due to the SE. Point F has greater consumption of both books (five to three) and doughnuts (100 to 84), so point F is clearly preferable to point B. We may explain the matter with the help of Fig.

Indifference curves may be used to analyse the effects of an income subsidy and a price subsidy upon the utility level of the consumer. 6.99 gives us how much period 2 consumption (i.e., C2) he may forego for a small one unit increase in period 1 consumption (i.e., C1).

Each indifference curve (Ul, Um, and Uh) represents one level of utility.

This line has touched one of his ICs, viz., IC1 at the point D(C1, C2). All lower indifference curves, like Ul, will cross the budget line in two separate places. Return to the situation of Lillys choice between paperback books and doughnuts.

Prohibited Content 3. Now, if the consumer is asked to pay an income tax of the amount DH.px in terms of money, or, DH.px/px = DH in terms of good X, then, prices of the goods remaining the same, his pre-tax budget line AB would have a horizontal and parallel leftward shift by an amount of DH = B2B. It happens in the case of those inferior goods whose income effect exactly equals substitution effect. In the usual case, when r > 0, future consumption and future income are discounted by a factor 1 + r. This discounting arises from the interest earned on saving. In other words, they are steeper on the left and flatter on the right. Watch this video to apply what youve learned about using indifference curves to find consumer equilibrium. As some amount of a good has to be sacrificed for an additional unit of another good it is the Opportunity Cost. Indifference curve analysis is based on the assumption of the diminishing marginal rate of substitution. an analytical guide to trading. Consider an individual whose utility function is U = C1C2, where Ct and C2 represent present and future consumption respectively. Here the consumer equilibrium occurs at the corner point, C1 of the in-kind subsidy budget line ACB1 on IC2. We may conclude, therefore, that the consumer is better off with an income tax than with a selective excise tax on good X. 4.1 Indifference Curves are negatively sloped.

It can slope or bend backward too which implies that at a higher wage rate, the individual will supply less labour (i.e. Therefore, the optimal consumption levels in the two periods (1 and 2) are 105 (Rs) and 115.5 (Rs), respectively. In the preference theory, this law has been replaced by the principle of diminishing marginal rate of substitution. Indeed, the slope along an indifference curve as the marginal rate of substitution, which is the rate at which a person is willing to trade one good for another so that utility will remain the same.

Marshall failed to explain these cases. An indifference curve is a graphical representation of a combined products that gives similar kind of satisfaction to a consumer thereby making them indifferent.Every point on the indifference curve shows that an individual or a consumer is indifferent between the two products as it gives him the same kind of utility.

Therefore, now the consumers budget line would be AB1 and he would be in equilibrium at the point of tangency E between this budget line and an IC, viz., IC2. Consumers would prefer to move in the direction indicated by the arrow in the figure. We may compare the effects of cash subsidy and in-kind subsidy upon the consumers utility level with the help of Fig. For when people decide how much to consume and how much to save, they consider both the present and the future. Let us suppose that . Since one point on the higher indifference curve is preferred to one point on the lower curve, and since all the points on a given indifference curve have the same level of utility, it must be true that all points on higher indifference curves have greater utility than all points on lower indifference curves. An indifferent curve is drawn from the indifference schedule of the consumer. This would give us an IE. On the other hand, the indifference curve technique analyses the income effect when the income of the consumer changes. Here L1M1 is the consumers initial budget line and D (C1, C2) is his initial equilibrium point on the indifference curve IC2.

It is, thus, superior to the utility analysis. Each point on the indifference curves represents the same level of satisfaction. Meaning of Indifference Curve 2.

However, if the consumer receives an equal amount of in-kind subsidy, i.e., BB1 of good X, the x-intercept of his initial budget line AB would become OB1 (= OB + BB1), i.e., if buys nothing of good Y, he would have OB, of good X.

Indifference Curves are Convex towards the Origin: Indifference curves are convex towards the origin because marginal rate of substitution continously decreases (because as the stock of one commodity decreases its marginal importance for the consumer will continously increases and as the stock of another commodity increases its marginal .

Therefore, the consumer here will prefer the in-kind subsidy to the (taxed) cash subsidy. As stated above, when two goods are perfect substitutes of each other, the indifference curve is a straight line on which marginal rate of substitution remains constant. Account Disable 12. This is the case of Giffen goods whose income effect outweighs the substitution effect and the demand curve slopes upward having a positive slope. Assumptions of Indifference Curve.

For example, Dalda and Rath Vanaspati, two different brands of cold drink such as Pepsi Cola and Coca Cola are generally considered to be perfect substitutes of each other.

4.4 Indifference Curves do not intersect. The indifference curve I 1 is the locus of the points L, M, N, P, Q, and R, showing the combinations of the two goods X and Y between which the consumer is indifferent. Let us now see how consumption responds to an increase in income. The better substitutes the two goods are for each other, the closer the indifference curve approaches to the straight line so that when the two goods are perfect substitutes the indifference curve is a straight line.

First we will explore the meaning of an individual indifference curve and then we will look at the relationship between differentindifference curves. 6.103 that the total effect of the rise in r is equal to the SE plus the IE. Here an IC, viz., IC2, has touched the budget line ACB1 at the point C and, at the same time, it has touched the budget line ACB1 at its corner point C. Therefore, in both cases, the consumers equilibrium point will move from the point E on IC1 to C on IC2, which is a higher curve. Excise Tax: Indifference curve analysis may be applied to compare the effects of two different taxes, viz., an income tax and an excise tax. Report a Violation 11. Indifference Curve Applications: Income Tax vs. Marshall avoided the discussion of substitutes and complementary goods by grouping them together as one commodity.

We shall first discuss the saving case with the help of Fig. The indifference curve analysis retains some of the assumptions of the cardinal theory, rejects others and formulates its own. It is untainted by the psychological assumptions of the utility analysis. Advantage # 3.

After the consumer receives the price subsidy on X, his expenditures in terms of x would be OB1 and those in terms of y would be OA, prices of the goods remaining the same.

This is because the segment A1C of the cash subsidy budget line or the consumption possibility line A1CB1 is not available to the consumer when he receives the in-kind subsidy, but the whole of the effective segment CB1 of the in-kind subsidy budget line is also open to the consumer when he receives the cash subsidy. It means that it cannot be efficient to have total consumption of any good which is less than the output of the good. 4 Important Properties of Indifference Curve (with curve diagram) - - StuDocu. ADVERTISEMENTS: Nguyen Quoc Trung. Since this law is based on the cardinal measurement, it possesses all the defects inherent in the cardinal analysis. Thus, while indifference curves have the same general shapethey slope down, and the slope is steeper on the left and flatter on the rightthe specific shape of indifference curves can be different for every person.

Property I. Indifference curves slope downward to the right: This property implies that an indifference curve has a negative slope.

They Slope Negatively or Slope Downwards from the Left to the Right: This is an important feature of Indifference Curve. Indifference curve analysis may be applied to compare the effects of two different taxes, viz., an income tax and an excise tax. Report a Violation 11. We may now obtain the revenue obtained from the tax, which is equal to the reduction in the amount of money spent on the two goods by the consumer, due to the imposition of the tax. 8.8 two perfect complements are consumed in the ratio, 3X: 27. An indifference curve shows allcombinations of goods that provide an equal level of utility or satisfaction.

This is not at all surprising, because both C1 and C2 are MIBsif the consumers period 1 consumption is reduced to, say, from point W to point X, his period-2 consumption must increase to keep him equally happy. After we have known the SE, we may now withdraw the notional compensatory increase in his money income, and as we do this his budget line would have a parallel leftward shift from ST to L2M2 and his equilibrium point would move from the point F on IC2 to the point E on IC1. In order to derive the consumers budget constraint we have to combine equations (6.131) and (6.132) and thereby we obtain. 6.97(a), the ICs of the consumer are positioned in such a way that, with the in-kind subsidy without any tax the consumer is in equilibrium at the point of tangency F on a higher IC, viz., IC2 and with cash subsidy, net of tax, the consumer is in equilibrium at the point of tangency E on a lower IC, viz., IC1.

GCD210267, Watts and Zimmerman (1990) Positive Accounting Theory A Ten Year Perspective The Accounting Review, Subhan Group - Research paper based on calculation of faults, Mechanics of Materials (Russell C. Hibbeler; S. C. Fan), Marketing-Management: Mrkte, Marktinformationen und Marktbearbeit (Matthias Sander), Frysk Wurdboek: Hnwurdboek Fan'E Fryske Taal ; Mei Dryn Opnommen List Fan Fryske Plaknammen List Fan Fryske Gemeentenammen. A ceteris paribus rise in (real) income would cause a rise in the consumers happiness which is reflected in the fact that the consumers optimum point now would be on a higher IC. Thus, the marginal utility that Lilly would gain from, say, increasing her consumption of books from two to three must be equal to the marginal utility that she would lose if her consumption of doughnuts was cut from 120 to 84so that her overall utility remains unchanged between points A and B. Cash Subsidy: An important application of indifference curves is to analyse with its aid the effect of subsidies to the consumers. The greater the fall in marginal rate of substitution, the greater the convexity of the indifference curve. Disclaimer 8. The less the ease with which two goods can be substituted for each other, the greater will be the fall in the marginal rate of substitution. This is the income effect.

The choice of H with three books and 70 doughnuts on indifference curve Ul is a wasteful choice, since it is inside Lillys budget set, and as a utility-maximizer, Lilly will always prefer a choice on the budget constraint itself.
If we assume that both C1 and C2 are normal goods, then both would in- c, crease after an increase in income and the consumers new equilibrium point Q2 would be positioned upward towards right of his initial equilibrium point Q1. The consumer earns income Y1 and consumes C2 in period 1, and earns income Y2 and consumes C2 in period 2. In period 1, saving equals income minus consumption, i.e.. Uploader Agreement. 6.96(b).

Let us now suppose that r rises, Y1 and Y2 remaining unchanged. Fig. She would also receive the same utility from any of the unlabeled intermediate points along this indifference curve. This website uses cookies and third party services. This website uses cookies and third party services. In the above diagram, IC is an Indifference curve.

Copyright 10.

Combination Q on the higher indifference curve IC2 will give a consumer more satisfaction than combination S on the lower indifference curves IC1 because the combination Q contains more of both goods X and Y than the combination S. Hence the consumer must prefer Q to S. And by transitivity assumption, he will prefer any other combination such as combination R on IC2 (all of which are indifferent with Q) to any combination on IC1 (all of which are indifferent with S) We, therefore, conclude that a higher indifference curve represents a higher level of satisfaction and combinations on it will be preferred to the combinations on a lower indifference curve. In essence, because the consumer earns interest on current income that is saved, future income is worth less than current income, i.e., the consumer would prefer to have more of current income to more of future income. The better substitutes the two goods are for each other, the closer the indifference curve approaches to the straight-line so that when the two goods are perfect substitutes, the indifference curve is a straight line. What is Lillys utility-maximizing choice? Before uploading and sharing your knowledge on this site, please read the following pages: 1. A normal indifference curve will be convex to the origin and it cannot be concave. However, if there is any other consideration, e.g., if a tax is imposed on the cash subsidy, but not on the in-kind subsidy, then we may be required to change this conclusion. Period 1 represents the consumers youth and period 2 represents the consumers old age. Disclaimer 8. An IC here is negatively sloped. That is, the consumer chooses consumptions in period 1 and period 2, i.e., (C01, C02), so that the MRS equals 1 plus the real interest rate (r). This has been the case in Fig.

When the consumer receives a cash subsidy this would boost up his income, the prices of the goods remaining unchanged.

Choices B and G are both on the opportunity set. According to Watson, An indifference schedule is a list of combinations of two commodities the list being so arranged that a consumer is indifferent to the combinations, preferring none of any other. The following is an imaginary indifference schedule representing the various combinations of goods X and Y.

6.102.



Given the combination of Lillys personal preferences, as identified by her indifference curves, and Lillys opportunity set, which is determined by prices and income, B will be her utility-maximizing choice. an abstract guide, Jomo Kenyatta University of Agriculture and Technology, L.N.Gumilyov Eurasian National University, Kwame Nkrumah University of Science and Technology, Bachelor of science in accountancy (150062), Avar Kamps,Makine Mhendislii (46000), Power distribution and utilization (EE-312), Ch07sol 8e - Managerial Finance Text Book Solutions, Instructors Manual Exercise Solutions for Artificial Intelligence A Modern Approach - Third Edition by Stuart J. Russell and Peter Norvig (), Mom chap 1 - mechanics of materials 7th edition solition manual chapter 1, Suh, Y. Content Guidelines 2.

(4) The prices of the two goods are given. Likewise, the combinations B and C will give equal satisfaction to the consumer; both being on the same indifference curve IC1. We shall assume here that the prices of goods X and Y remain unchanged as also the consumers initial money income, throughout our analysis. The entire utility analysis assumes that utility is a cardinally measurable quantity which can be assigned weights called untils. An indifference curve is a curve that represents all the combinations of goods that give the same satisfaction to the consumer.

This numerical slope, as we know, is known as the marginal rate of substitution of C1 for C2. Given these gentle assumptions, a field of indifference curves can be mapped out to describe the preferences of any individual. The latter, according to Prof. Hicks, is not mere translation but is a positive change. The reason behind this shape involves diminishing marginal utilitythe notion that as a person consumes more of a good, the marginal utility from each additional unit becomes lower. Indifference curve : It shows the different commodities in which consumers get equal satisfaction. . On the other hand, if he spends all his money income on Y, he would have OA of Y plus he would be able to buy an amount of X with the subsidy which is equal to BB1 or AC. In order to isolate the SE, we shall, for the time being, withdraw the improvement in the consumers real income that has been caused by the rise in r. We may do this by curtailing appropriately Y1 and/or Y2, r remaining unchanged at its new higher level. Hicks have explained the concept of consumers surplus by dispensing with the unrealistic assumption of the marginal utility of money. We have compared the effects of a cash subsidy and an in-kind subsidy upon the economic well-being of the consumer. But there are a number of indifference curves, as shown in Figure 2. Figure 1. The earlier economists explained substitutes and complements in terms of cross elasticity of demand. Indifference Curve and Utility Approach: Similarities, How to derive Individuals Demand Curve from indifference Curve Analysis?

Two things have happened here. A higher indifference curves to the right of another represents a higher level of satisfaction and preferable combination of the two goods. Here we have assumed that the consumer purchases only two goods, X and Y, and his money income is M. Initially, let us suppose that the budget line of the consumer is AB and his equilibrium is at the point of tangency C on the indifference curve, IC1.

The curves that are farther away from the origin represent higher levels of satisfaction as they have larger combinations of X and Y. Fishers model focuses on the constraints the consumers face, the (ordinal) preferences they have, and how these constraints and preferences together determine their choices about consumption and saving. For example, Figure 1 presents three indifference curves that represent Lillys preferences for the tradeoffs that she faces in her two main relaxation activities: eating doughnuts and reading paperback books. Combination Q has been taken on a higher indifference curve IC2 and combination S on a lower indifference curve IC1. As a result, the consumers budget line would have a parallel rightward shift from L2M2 to ST, the latter being a tangent to IC2 at the point F (C1, C2). The choice of F with five books and 100 doughnuts is highly desirable, since it is on the highest indifference curve Uh of those shown in the diagram. Therefore we need to restrict attention to consumption bundles for the individuals.

On the other hand, if period-1 consumption exceeds period-1 income, the consumer is borrowing (S < 0). The budget line now would be the line L2M2. Practice until you feel comfortable doing the questions.

Higher indifference curves represent a greater level of utility than lower ones.

All this means that the two perfect complements are used in a certain fixed ratio and cannot be substituted for each other In Fig. Therefore, every individual consumer who takes the prices as given will prefer a cash subsidy to an in-kind subsidy, unless there is any other consideration. At this point, the slope of the indifference curve equals the budget line, so that.

It Studies Combinations of Two Goods Instead of One Good 3. Fig. More generally, for any point on a lower indifference curve, like Ul, you can identify a point on a higher indifference curve like Um or Uh that has a higher consumption of both goods. The consumer arranges the various combinations of goods in a scale of preferences marked as first, second, third, etc. 6.97. Uploader Agreement. This new budget line would touch a higher IC. Terms of Service 7. 6.97(b) illustrates the case where the ICs of the consumer are so positioned that he will prefer the cash subsidy even if taxed to the untaxed in-kind subsidy. Let us suppose that the consumer buys only two goods, X and Y. Perfect complementary goods are used in a certain fixed ratio.

At point A on the budget line, the consumer consumes exactly his income in each period (C1 = Y1 and C2 = Y2), so there is neither nor borrowing between the two periods. Thus the indifference curve I4 indicates a higher level of satisfaction than I3 which, in turn, is indicative of a higher level of satisfaction than I2 and so on. One of the main defects in the Marshallian utility analysis is that it fails to analyse the income and substitution effects of a price change. Thus, Lillys preferences will include an infinite number of indifference curves lying nestled together on the diagrameven though only three of the indifference curves, representing three levels of utility, appear in Figure 1. The indifference curve technique explains consumers equilibrium in a similar but better way than the Marshallian proportionality rule. At point B, the consumer consumes nothing in period 1 (Q = 0) and saves all income, so the period-2 consumption is C2 = (1 + r) Y1 + Y2. This is shown in Fig.

Property III: Indifference curves cannot intersect each other: Third important property of indifference curves is that they cannot intersect each other In other words only one indifference curve will pass through a point in the indifference map 1 his property can be easily proved by first making the two indifference curves cut each other and then showing the absurdity or self-contradictory result it leads to. At the utility-maximizing solution, the consumer's marginal rate of substitution (the absolute value of the slope of the indifference curve) is equal to the price ratio of the two goods. Let us now consider the effects of a price subsidy on good X upon the well-being of the consumer. If the consumer does not save in period 1, then also we have C1 = Y1 and C2 = Y2 giving us C1 + C2 = Y1 + Y2. 1.

Here, with cash subsidy net of tax, the consumer is in equilibrium at the point G which is the point of tangency between the cash subsidy, net of tax, budget line A2B2 and IC2. Now that we have obtained the budget lines of the consumer in the cash subsidy and in-kind subsidy cases, it would be rather easy for us to compare between the effects of the two cases upon the consumers utility level. Watch the clip from this video carefully to see examples of indifference curves and what makes them useful. In order to isolate the SE, we shall for the time being compensate the consumer for the deterioration in his real income level by appropriately increasing his Y1 and/or Y2, r remaining unchanged. The degree of convexity of an indifference curve depends on the rate of fall in the marginal rate of substitution of X for Y.

The indifference curve analysis enables us to understand consumer's general demand behaviour with respect to various types of goods which Marshall treated as special cases. Copyright 10. Let us now come to the effects of an income tax upon the economic well-being of the consumer. So far in the text, we have described the level of utility that a person receives in numerical terms. Lillys budget constraint, given the prices of books and doughnuts and her income, is shown by the straight line. Let us also note that the variable S can represent either saving or borrowing (negative saving) and equations (6.131) and (6.132) hold in both cases.

Indifference curves for other people would probably travel through different points.

Fig.

Indifference Curve Applications of Taxes and Subsidies!

First, the case in which the consumer is initially saving, and second, the case in which he is initially borrowing. This makes the indifference curve technique definitely superior to the Marshallian introspective cardinalism.

Most people would prefer to increase the quantity or quality of the goods and services they consume.

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