E-LESSON-5 MICRO ECONOMICS

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BBA/BCOM 2 All right are reserved with CU-IDOL Micro economics Course Code: BBA103/BCM103 Semester: First e-Lesson: 5 SLM Unit: 5 www.cuidol.in Unit-5(BBA103/BCM103)

MICRO ECONOMICS 33 OBJECTIVES INTRODUCTION To enable the students to describe the In this unit we are going to learn about understanding of the concept of consumer consumer behavior and utility behavior and utility. To understand the Law of Diminishing Under this you will learn the law of Marginal utility diminishing marginal utility and equi marginal utility. To evaluate, analyze and the concept of Be able to understand the concept of consumer equilibrium . consumer equilibrium. www.cuidol.in Unit-5(BBA103/BCM103) INSTITUTE OF DISTANACEll ArNigDhtOaNrLeINreEsLeErAvRedNIwNiGth CU-IDOL

TOPICS TO BE COVERED 4  Introduction of Consumer Behavior  Concept of Utility  Law of Diminishing Marginal utility  Law of Equi marginal utility  Consumer equilibrium www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Consumer Behavior 5  The theory of consumer behaviour describes how consumers buy different goods and services .  Consumer behaviour also explains how a consumer allocates its income in relation to the purchase of different commodities and how price affect his/her decision. www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Introduction The purpose of the theory of demand is to 6 determine the various factors that affect demand. All right are reserved with CU-IDOL Determinants: 1. The price of the commodity 2. Other prices 3. Income 4. Tastes 5. Income distribution 6. Total population 7. Wealth 8. Government policy www.cuidol.in Unit-5(BBA103/BCM103)

Introduction 7  The trad itional theory of dem and em phasis on consumer’s demand for durable and non-durable goods.  It does not deal with investment goods.  It is only a fraction of the total demand in the economy as a whole.  The market demand is assumed to be the summation of the demands of individual consumers.  If a consumer gets more utilities from a commodity, he would be willing to pay a higher price and vice-versa. www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Utility 8 All right are reserved with CU-IDOL  Utility is wants satisfying power of a commodity which varies from person to person.  The concept of utility is ethically neutral as harmful and useful things are both considered.  The value-in-use of a commodity is the satisfaction which we get from the consumption of a commodity. www.cuidol.in Unit-5(BBA103/BCM103)

Two types of Utility 9 1.Total utility 2.Marginal utility  Total Utility (TU) : It is the total amount of satisfaction or pleasure a person derives from consuming some specific.  Marginal Utility (MU) : It is the extra satisfaction a consumer realizes from an additional unit of that product. In other words, it is additional satisfaction that an individual derives from consuming an additional unit of a good or services, MU = Change in total unit / change in quantity www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

For example 10 Quantity Total Utility (TU) Marginal Utility (MU) 0 0 - 1 15 15 2 28 13 3 39 11 4 48 9 5 55 7 6 60 5 7 63 3 8 64 1 9 63 -1 www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Analysis of the table 11  TU rises, MU falls  TU at maximum level , when MU = 0  TU falls, when MU negative  TU in general increase with quantity.  If TU increases, MU > 0  If TU decreases, MU < 0 www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Graph of total utility 12 www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Graph of Marginal utility 13 www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

The Law of diminishing marginal 14 utility The law of diminishing marginal utility describes a familiar and fundamental tendency of human behavior. “The law of diminishing marginal utility states that, “as a consumer consumes more and more units of a specific commodity, utility from the successive units goes on diminishing”. www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Assumptions of the Law 15 These assumptions are –  Various units of goods are homogenous.  There is no time gap between consumption of the different units.  Consumer is rational  (So aims at maximization of utility of the product)  Tastes, preferences, and fashion remain unchanged.  Consumers posses perfect knowledge of the price in the market  No price change  It assumes Law of marginal diminishing Utility  Utilities of different commodities are independent of each other www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Explanation of the Law: 16  Suppose a person is thirsty and the price of water is zero. He takes one glass of water which gives him great satisfaction. We can say the first glass of water has great utility for him.  He then takes second glass of water. The utility of the second glass of water is less than that of first glass of water. The utility declines because the edge of his thirst has been blunted to a great extent.  If he drinks third glass of water, the utility of the third glass will be less than that of second and so on. The utility goes on diminishing with the consumption of every successive glass of water till it drops down to zero. www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

For example 17 Units Total Utility Marginal Utility 1st glass 20 20 2nd glass 32 12 3rd glass 40 8 4th glass 42 2 5th glass 42 0 6th glass 39 –3 www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Graph of Diminishing Marginal 18 Utility www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Law of Equi marginal Utility 19  Utility : ‘ The satisfaction that a consumer gets by having or consuming goods or services is called utility’.  Total Utility (TU) : ‘ It is the sum total of satisfaction which a consumer receives by consuming the various units of the commodity’.  Marginal Utility (MU) : ‘ It is the change in total utility resulting from one unit change in consumption of good’. MU = ΔTU / ΔQ www.cuidol.in MU = TUn – TUn-1 ; where ΔQ = 1 All right are reserved with CU-IDOL Unit-5(BBA103/BCM103)

Optimal choice of the consumer/ 20 Consumer’s equilibrium  After attaining the stage of indifference curve and budget constraint, consumer has to reach equilibrium position.  A consumer derives maximum possible satisfaction from the goods at equilibrium position.  A consumer cannot rearrange his purchase of goods a t t h a t level.  Assumptions: 1.The consumer has given indifference map which shows his scale of preferences for various combinations of two goods X and Y. 2.He has a fixed money income which he has to spend wholly on goods X and Y. 3.The prices of goods X and Y are given fixed for him. www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Consumer’s equilibrium 21 According to the graph: • IC1, IC2, IC3, IC4, IC5 are the indifference curves • PL is the budget line for goods X and Y. • Combinations R, S, Q, T, H cost the same. Y Q The customer’s aim is to reach highest indifference curve which maximises his satisfaction. P R  R or H lies on a lower indifference curve IC1, S  S or T lies on a lower indifference curve IC2, N  Whereas IC4 and IC5 are beyond the consumer’s T IC5 money income. H IC4 IC3 0M IC2 IC1 X L www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Consumer’s equilibrium 22 “Consumer will decide Q asthe best choice which lies on the budget line and also puts him on highest possible indifference curve IC3”. MUx MUy Utility maximisation rule:  Px Py if MUx  MUy buy more of 'x' Px Py if MUx  MUy buy more of 'y' Px Py www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Consumer’s equilibrium 23 Conclusion:  Thus the consumer will be at equilibrium at point Q on IC3.  The consumer will buy OM of Xand ON of Y.  Since there is a budget constraint, he will be forced to remain on the given budget line.  He will have to choose only combinations which lie on the given price line. www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Multiple Choice Questions 24 1. The total utility of a product is calculated by: A) summing the marginal utility from the first unit of a product that is consumed and the last unit of a product that is consumed. B) multiplying the marginal utility of a unit of the product consumed times the average quantity consumed. C) summing the marginal utilities for each successive unit of the product that is consumed. D) multiplying price times quantity and dividing by the marginal utility 2. Which is an explanation for why the demand curve is downsloping? A) normal goods B) the law of supply C) the law of diminishing marginal utility D) the law of increasing opportunity cost Answers: 1.C) 2. C) www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

Multiple Choice Questions 25 3. A consumer reaches equilibrium when B) Marginal utility greater than price A) Marginal utility is equal to price D) Total utility is equal to price C) Marginal utility less than price Answers: 3.A) www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

SUMMARY 26  Utility Utility is the want satisfying power of the commodity.  Marginal Utility The marginal utility of a commodity is the change in total utility which results from a unit increase in consumption. MV = TUn – TUn-1 or Δ in TV/Δin unit of commodity.  Total utility Total utility is the sum of marginal Utilities obtained from the consumption of different units of a commodity TU=EMU  The law of diminishing marginal utility explains that as a person consumes an item or a product, the satisfaction or utility that they derive from the product wanes as they consume more and more of that product.  Consumer Equilibrium. The state of balance obtained by an end-user of products that refers to the number of goods and services they can buy given their existing level of income and the prevailing level of cost prices. www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

FAQ’S 27 Q.1 What are the two types of Utility? Ans: Total Utility (TU) : It is the total amount of satisfaction or pleasure a person derives from consuming some specific and Marginal Utility (MU) : It is the extra satisfaction a consumer realizes from an additional unit of that product. In other words, it is additional satisfaction that an individual derives from consuming an additional unit of a good or services. Q.2 Explain the Law of Diminishing Marginal Utility? Ans : The law of diminishing marginal utility explains that as a person consumes an item or a product, the satisfaction or utility that they derive from the product wanes as they consume more and more of that product. Q3. What is meant by Optimal choice of the consumer/ Consumer’s equilibrium ? Ans :Consumer Equilibrium. The state of balance obtained by an end-user of products that refers to the number of goods and services they can buy given their existing level of income and the prevailing level of cost prices. www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL

28 THANK YOU For queries Email: [email protected] www.cuidol.in Unit-5(BBA103/BCM103) All right are reserved with CU-IDOL