L2

• Utility

  The satisfaction one gets from consumption of a good or service
• Utils

  Units for measuring utility/satisfaction
• Consumption Bundle


  The set of all the goods and services an individual consumes
• Total Utility


  The total benefit a person gets from the consumption of goods
• Marginal Utility

  The additional satisfaction a consumer gains from consuming one more unit of a good or service
• As the quantity consumed of a good increases, the marginal utility will eventually decrease due to the Principle of Diminishing Marginal Utility
• Diminishing Marginal Utility

  • As consumption increases, the cumulative satisfaction level still increases, however each new increase is less than the previous increase
  • Total utility for goods increases, but at a decreasing rate
• Budget Line

  It represents all consumption bundles (i.e. possible combinations of different goods) that an individual can purchase if the budget is spent completely
• Interpreting consumption bundles that do not lie on the budget line

  1. Unaffordable

  2. Affordable

  3. Does not utilise the budget fully
• Budget line

  Shows the affordable consumption bundles given the consumer's budget and prices of the goods
• Indifference curve

  Shows all the consumption bundles that give the same amount of total utility for an individual
• Higher indifference curve means higher total utility
• A rational individual prefers bundles that lie on a higher indifference curve due to higher satisfaction
• An individual is indifferent (i.e. does not have a preference) to any bundles that lie on the same indifference curve
• Optimal Consumption Bundle is where the budget line is tangent to the highest possible indifference curve
• Factors affecting optimal consumption bundle

  Change in price of the good<|>Change in income or budget
• Increase in income or same proportional decrease in prices of both goods

  Causes optimal consumption bundle to move due to an outward parallel shift of budget line
• Decrease in price of Good X


  Causes optimal consumption bundle to move due to an outward pivot shift of budget line along "X" axis
• As consumption increases, the total satisfaction level still increases, however each amount of increase is less than the previous amount due to the principle of Diminishing Marginal Utility
• A rational consumer would not consume an additional unit when it generates negative marginal utility, even when that unit is free
• Any two consumers faced with the same budget and prices, will make different consumption choices because consumers have different preferences
• Change in a consumer's optimal consumption bundle can be caused by a change in price of the goods and/or a change in budget/income
• A conventional indifference curve is bowed because of the principle of Diminishing Marginal Utility