Consumer Behavior
· The goal of consumer behavior is utility
maximization
· Consumer choice among various
alternatives is subject to constraints:
· income or budget
· prices of goods purchased
· preferences
Models of Consumer Behavior
· Marginal Utility approach
· cardinal measure of utility
· Indifference approach
· ordinal utility
Cardinal Utility Approach to Consumer
Behavior
· Total and Marginal utility
· Law of diminishing Marginal Utility
· Equimarginal rule and utility
maximization
Total utility [TU] is defined as the amount of satisfaction an
individual derives from consuming a given quantity of a good
during a specific period of time
Utility
TU
Q
TU
120
100
2
30
55
75
60
1
3
4
5
6
90
7
100
105
105
8
100
80
40
20
.
1
.
2
.
3
.
.
.
.
.
TU
4
5
6
7 Q/ut
Nature of Total Utility
· When more and more units of a good are consumed
in a specific time period, the utility derived tends
to increase at a decreasing rate
· Eventually, some maximum utility is derived and
additional units cause total utility to diminish. As
an example, think of eating “free” muffins..or
paani puri..
· It is possible for total utility to initially increase
at an increasing rate..
Marginal Utility [MU] is the change in total utility [DTU]
caused by a one unit change in quantity consumed[DQ] ;
Utility
DQ=1
DQ=1
DQ=1
Q
TU MU
1
2
3
4
5
6
7
8
30
55
DTU=25
75
20
90
100
105
105
100
DTU=30
30
25
DTU=20
15
10
5
0
-5
The first unit consumed increases TU by 30.
MU
The 2cd unit increases TU by 25.
30
25
20
..
10
..
1DQ2
3
4
.. .
MU
5
MU = DTU
DQ
6
7
.
Q/ut
Utility
Q
1
2
3
331
4
5
6
7
8
TU MU
30
55
30 DTU=30
75
20
90
15
10
100
105
105
100
25
5
0
-5
TU
120
100
80
60
40
20
MU
1
2
3
4
5
6
7 Q/ut
Marginal Utility
· Marginal utility [MU] is the change in total utility
associated with a 1 unit change in consumption.
· Relation between TU and MU:
· As total utility increases at a decreasing rate, MU
declines.
· When TU is a maximum, MU is 0 [This is sometimes
called the “Satiation point” or the point of “absolute
diminishing utility.”
· As total utility declines, MU is negative
Diminishing Marginal Utility
· Initially, it may be possible for TU to increase at
an increasing rate. In which case MU will increase
[MU is the slope of TU which is increasing].
· Eventually, as more and more of a good are
consumed in a given time period, TU continues to
increase but at a decreasing rate; MU decreases.
B > PxQx + PyQy
The budget constraint can be expressed:
The amount of good Y that can be purchased
is the budget divided by the price of good Y,
The amount of good X
that can be purchased
is,
B
Px
Qy
B
80
= 16 =
Py
5
Connecting the two intercepts
identifies all combinations of
goods X &Y that can be
purchased for a budget of $80,
Py = $5, and PX = $3.
0
C
B
Py
For an B = $80,
and Py = $5
For an B = $80,
and PX = $3
Any combination
inside area 0AC
can be purchased
for less than $80.
B
80
= 26.7 =
Px
3
A
Qx
Consider an individual’s utility preference for 2 goods, X & Y;
Good X
Utility X
Qx
1
2
3
4
5
6
TUx MUx
30
55
30
25
75 20
90
7
100
105
105
8
100
15
10
5
0
-5
If the two goods were “free,”
[ or no budget constraint],
the individual would consume
each good until the MU of
that good was 0, 7 units
of good X and 6 of Y.
Once the goods have a price
and there is a budget
constraint, the individual
will try to maximize the
utility from each additional
dollar spent.
Good Y
Utility Y
Qy
1
2
3
4
TUy MUy
60
90
60
30
110
20
120
10
5
6
128
7
120
8
100 - 20
128
8
0
-8
Given the budget constraint, Individuals will attempt to
gain the maximum utility for each additional dollar spent,
“the marginal dollar.”
Utility X
Qx
1
2
3
4
5
6
TUx MUx
30
55
30
25
75 20
90
7
100
105
105
8
100
15
10
5
0
-5
MUX
PX
10.
8.33
For PX = $3, the
MUX per dollar
spent on good
X is;
For PY = $5, the
6.67 MUY per dollar
5.00 spent on good
Y is;
3.33
1.67
0
MUY
PY
Utility Y
Qy
12
1
6
2
4
3
4
2
1.6
0
5
6
TUy MUy
60
90
60
30
110
20
120
10
7
128
128
120
8
0
-8
8
100 - 20
Now the preferences of the individuals and the relative prices
of the two goods are displayed in the tables.
Utility X
Qx
1
2
3
4
5
6
TUx MUx
30
55
30
25
75 20
90
7
100
105
105
8
100
15
10
5
0
-5
MUX
PX
10.
8.33
6.67
5.00
3.33
1.67
0
MUY
PY
If the objective is
to maximize utility
given prices,
preferences, and
budget, spend each
additional $ on the
good that yields
the greater utility
for that
expenditure.
Utility Y
Qy
12
1
6
2
4
3
4
2
1.6
0
5
6
TUy MUy
60
90
60
30
110
20
120
10
7
128
128
120
8
0
-8
8
100 - 20
Given the preferences of the individual and the relative
prices of the goods [PX = $3, PY = $5], the MU’s for
each dollar spent are:
To maximize TU given a budget of $30,the first
expenditure would logically be for good Y since
the MUY for each dollar is 12.
MUX
PX
10.
8.33
$3
$3
6.67
$3
$3
5.00
3.33
1.67
0
$3
The second expenditure is for good X,
[MUX $ is greater than MUY $]





The third & fourth expenditures are for
good X since the MU per dollar spent is
greater for X than Y.



MUY
PY
$5
$5
$5
The fifth expenditure is for is for good Y.
Continue to maximize the MU per $ spent.
AT THIS POINT YOU HAVE SPENT THE BUDGET OF $30.
MUY
MUX
MUY
MUX
PX
>P
Y
, BUY X !
PX
<P
Y
, BUY Y !
12
6
4
2
1.6
0
MUX
PX
>MU
P
MUX
PX
<MU
P
Y
Y
Y
Y
says that the marginal utility of an additional
dollar spent on good X is greater than that of
a dollar spent on good Y.
indicates that the MU per dollar spent on good
Y exceeds that of a dollar spent on good X.
If the amount spent on the two goods is equal to the budget
then
MUX MUY suggests that the individual should buy
PY less of Y in order to buy more of X.
PX
>
MUX
PX
<MU
P
Y
Y
says to purchase less X to pay for additional
amounts of Y.
MUX
MUY
is an equilibrium condition!
PX = PY