Lesson4 Theory of Consumers Choice and Behavior

doc.ejlopez@gmail.
com
How does a consumer (of goods
and services) behave?
• To analyze this, we need to have a more

rigorous foundation of how we derive the
demand curve.
• We need to know something about the way
consumers make decisions to be able to
understand what determines the
willingness to buy at different prices.
Consumer’s Awareness
• How do consumers behave when confronted
with alternate bundles of goods? We impose the
following axioms on the preferences of the
consumer .
• As to completeness:
Given any two basket of goods (and services) A
and B the consumer can make
one of the following assumptions:
1. I prefer good A to good B
2. I prefer good B to good A
3. I am indifferent between A and B
• What this implies is that the consumer has the

ability to rank alternative choices of goods.
• The phenomenon of ignorance is denied to this
consumer which may seem a very strong
assumption. In particular, it suggests experience
with all possible consumption alternatives.
However, this may be a reasonable description
of reality for choices which the consumer
actually has to make.
• For example while it is unreasonable to
believe that a consumer is really able to
compare between eating at Jollibee for
lunch or at Manila Hotel chances are
that he is able to decide between
situations he is likely to face. Intuitively
we say that the consumer knows
his/her mind.
• As to Monotonicity. Simply means that
more is better. Any bundle which has
more of one or more commodities and
no less of any other is liked better by
the consumer. One can easily think of
an example-after consuming 2 kilos of
lanzones the third one may well make
you sick but for the relevant range of
goods this may not be an appropriate
assumption.
• Reflexivity and Transitivity. These are
essentially consistency conditions on the
choices consumers make.
• Reflexivity simply means that commodity A is
as good as commodity A! You can think of this
as implying that the same commodity is
ranked the same way every time.
• Transitivity means that if commodity A is as
good as commodity B and B is as good as C
then it must be that A is as good as C.
• This makes intuitive sense. If I hate
Econometrics as much as Macroeconomics
as Macroeconomics; and Macroeconomics
as much as Calculus then I must hate
Econometrics as much as Calculus. An
exception to transitive behavior is for the
case of addictive goods. Initially I may
hate cigarettes so less is preferred to more
but after a point I get addicted so more is
preferred to less; This violates transitivity.
• These assumptions are enough to
generate a consistent behavior of
consumer behavior but further
simplification in representation is
achieved if we make assumptions.
• Continuity This simply means the there
are no jumps in the choice sets. This is
essentially a mathematical requirement
and a fuller treatment can be found in any
standard text on microeconomics.
• Convexity This is another assumption on
behavior which can be interpreted to mean
that mixtures are preferred to extreme. In
words if the consumer is indifferent to 2
goods X and Y, convexity of preferences
imply that any linear combination of X and
Y would be at least as good (if not better) as
X or Y .
• The idea is that if X and Y are bundles of

goods (apples, bananas, carrots etc.), then a
linear combination takes percentages from
each of the bundles (which add up to a
hundred percent) of goods.
• What this means is that consumers
have diminishing marginal rate of
substitution. This assumption ensures
that the choices consumers make
display diversity. That is consistent
with our empirical observation that the
consumer chooses to consume a wide
variety of goods.
• If preferences were not convex theory
would predict monomaniac behavior
(consuming only one good) – that
seems at odds with what we see
around us. (What is missing in this
preference representation is intensity
of preferences-we are not able to say
how much more a consumer likes two
apples over one. In other words
preferences are ordinal -only the
ranking is known.)

Lesson4 Theory of Consumers Choice and Behavior

Uploaded by

Copyright:

Available Formats

Lesson4 Theory of Consumers Choice and Behavior

Uploaded by

Document Information

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Lesson4 Theory of Consumers Choice and Behavior

Uploaded by

Copyright:

Available Formats

doc.ejlopez@gmail.

• To analyze this, we need to have a more

• What this implies is that the consumer has the

• The idea is that if X and Y are bundles of

You might also like