MICROECONOMIC THEORY I

Unit 1
Theory of consumer choice

Department of Economics

Ms. Sharanya S V
Assistant Professor
 Determine
Explain Hick’s Illustrate Income
Consumer
Substitution effect Effect through
Equilibrium through
IC approach
ICC

Explain Slutsky
Substitution effect
LEARNING Illustrate Price
Effect through
OUTCOMES PCC

Explain Revealed Illustrate the Illustrate

Preference Consumer Consumer
Theory of Surplus by Surplus through
Demand Marshall IC

Ms. Sharanya S V
Assistant Professor
 CONSUMER EQUILIBRIUM THROUGH INDIFFERENCE
CURVE ANALYSIS

a. Introduction to Indifference curve analysis

b. Assumptions to equilibrium of the consumer
c. Indifference Map and Budget Line of consumer
d. Consumer’s Equilibrium or Maximization of Satisfaction
e. First and Second order condition for consumer equilibrium

Ms. Sharanya S V
Assistant Professor
a. Introduction to Indifference curve analysis

● The basic tool of Hicks-Allen ordinal utility analysis of

demand.
● Based on the concept of ordinal utility- can be compared
with each other-1st, 2nd, 3rd. etc but not be measured in
quantitative terms.

Ms. Sharanya S V
Assistant Professor
a. Introduction to Indifference curve analysis

Assumptions of Indifference Curve Analysis

● More of a commodity is better than less-Non-satiation

● Preferences or indifferences of a consumer are transitive.
● Diminishing marginal rate of substitution-MRS
● https://mru.org/courses/principles-economics-microeconomics/consumer-choice-indifference-curves-marginal-rate-substitutio
n

Ms. Sharanya S V
Assistant Professor
a. Introduction to Indifference curve analysis
Assumptions of Indifference Curve Analysis
Marginal Rate of Substitution
+’

Ms. Sharanya S V
Assistant Professor
b. Assumptions to equilibrium of the consumer

1. The consumer has a given indifference map exhibiting his scale of

preferences for various combinations of two goods, X and Y.
2. The consumer has a fixed amount of money to spend on the two goods.
3. Whole of the given money is spent on the two goods.
4. Prices of the goods are given-Px and Py.
5. Goods are homogeneous.

Ms. Sharanya S V
Assistant Professor
c. Indifference Map and Budget Line of consumer

Indifference Map
● A graph showing a whole set of
indifference curves is called an
indifference map.
● Each successive curve further from the
original curve indicates a higher level of
total satisfaction.
● An indifference map portrays
consumer’s scale of preferences.
Ms. Sharanya S V
Assistant Professor
c. Indifference Map and Budget Line of consumer

Budget Line: Shows all those combinations of two goods which the
consumer can buy by spending his given money income on the two goods
at their given prices.

Y=50 to spend on two

goods X and Y.

https://mru.org/courses/principles-econo
Px= Rs.10
mics-microeconomics/consumer-choice- Py=Rs.5.
budget-constraints-opportunity-costs

Ms. Sharanya S V
Assistant Professor
d. Consumer Equilibrium or Maximisation of
Satisfaction

● "The term consumer’s equilibrium refers to the amount of goods and

services which the consumer may buy in the market given his income
and given prices of goods in the market".
● The aim of the consumer is to get maximum satisfaction from his
money income.
● "A consumer is said to be in equilibrium at a point where the price line is
touching the highest attainable indifference curve from below"
● https://mru.org/courses/principles-economics-microeconomics/consumer-choice-optimization-marginal-utility

Ms. Sharanya S V
Assistant Professor
e. First and Second order condition for consumer
equilibrium

First order condition :

● A given price line should be tangent to an
indifference curve

Ms. Sharanya S V
Assistant Professor
e. First and Second order condition for consumer
equilibrium

Second order condition :

● Indifference curve must be convex to the
origin at the point of tangency.
● Marginal rate of substitution of X for Y
must be falling at the point of equilibrium.

Ms. Sharanya S V
Assistant Professor