Consumer Preferences

Source: chapter # 3, Microeconomics, Fourth Edition by David Besanko & Ronald

R. Braeutigam
 Consumer Preferences
• Consumer preferences indications of how a
consumer would rank (compare the
desirability of ) any two possible baskets,
assuming the baskets were available to the
consumer at no cost.

• Basket: A combination of goods and services

that an individual might consume.
 ASSUMPTIONS
• The consumer is able to rank any two baskets;
• Preferences are complete:
A is preferred to B
B is preferred to A
indifferent
• Preferences are transitive

• Monotonicity: More is better

• None satiation: Before saturation

ORDINAL AND CARDINAL RANKING
• Ordinal Ranking: Ranking that indicates
whether a consumer prefers one basket to
another, but does not contain quantitative
information about the intensity of that
preference.
• Cardinal Ranking: A quantitative measure of
the intensity of a preference for one basket
over another.
 UTILITY FUNCTIONS
• Utility Function: A function that measures the
level of satisfaction a consumer receives from
any basket of goods and services. U = f(y)

• Marginal Utility: The rate at which total utility

changes as the level of consumption rises
 Diminishing Marginal Utility
• As consumption of a good increases, the
marginal utility of that good will begin to fall

• The marginal utility is the slope of the (total)

utility function

• The relationship between total and marginal

functions
Is More Always Better?
 PREFERENCES WITH MULTIPLE GOODS

• U = f (x, y)

• Indifference Curve: different combinations of

two goods give same level of satisfaction
Indifference Map
 Properties of Indifference Curves
• All the indifference curves have a negative
slope
• Indifference curves cannot intersect
• Every consumption basket lies on one and
only one indifference curve
• Indifference curves are not “thick.’
All the indifference curves have a negative slope
Indifference curves cannot intersect.
Every consumption basket lies on one and only
one indifference curve.
Indifference curves are not “thick.’
 The Marginal Rate of Substitution
• The slope of IC

• The rate at which the consumer will give up one good

to get more of another, holding the level of utility
constant.

• Diminishing MRS
A feature of consumer preferences for which the
marginal rate of substitution of one good for another
good diminishes as the consumption of the first good
increases along an indifference curve
MRSxy
Mathematically
 SPECIAL PREFERENCES
• PERFECT SUBSTITUTES: Two goods such that
the marginal rate of substitution of one good
for the other is constant; therefore, the
indifference curves are straight lines.

• perfect complements: (in consumption) Two

goods that the consumer always wants to
consume in fixed proportion to each other
PERFECT SUBSTITUTES
Perfect Complements:
 THE COBB–DOUGLAS UTILITY FUNCTION

• Slope