Chapter Five-A

General Comments
(after Chapter 5:Choice)
 Mathematical Interpretation
 How do we interpret our choice
problem mathematically?
 Mathematically, it is a constrained
optimzation problem.
 More than Two Goods
 With more than two goods, intuitive
approach does not work.
 We will need more than two-
dimensional pictures.
 We then have to use the formal
machinery of constrained
optimization.
 Realism of the Model
 Do consumers really behave like in
the model we have described?
 We can approach this question from
several perspectives.
 Realism 1
 Just because a theory is
mathematically complicated doesn’t
mean individuals cannot follow that
theory.
 For example, we follow laws of
motion subconsciously.
 Similarly, consumers may be going
through a process of maximization.
 The theory is a formalization of that
process.
 Realism 2
 What is “utility”?
 Utility is anything that individuals are
trying to maximize.
 It is plausible that when we do
something, we are trying to maximize
something.
 Maybe one’s well being (selfishness),
or someone else’s well being
(altruism)
 Realism 2
 We arrive at our decision by taking
into account this desire to maximize.
 The notion of utility and utility
maximization is a formalization of
that process.
 This is rationality. Rationality does
not mean selfishness. It is
maximizing one’s utility. Utility can
be anything.
 Realism 3
 Why do we need a mathematical theory?
 It imposes tight discipline into our thought
process.
 A mathematical theory gives very precise
results which can be verified empirically.
 Milton Friedman’s view: it doesn’t matter
how realistic the structure of a theory is.
What matter is results that can be
empirically tested.