TAILIEUCHUNG - Lecture Economics: Chapter 7 - Dean Karlan, Jonathan Morduch

Chapter 7 - Consumer behavior. In this chapter you will learn: How revealed preferences relate to utility, how budget constraints affect utility maximization, how income affects consumption choices, how prices affect consumption choices and how to distinguish between income and substitution effects. | Chapter 7 Consumer Behavior © 2014 by McGraw‐Hill Education 1 What will you learn in this chapter? • How revealed preferences relate to utility. • How budget constraints affect utility maximization. • How income affects consumption choices. • How prices affect consumption choices and how to distinguish between income and substitution effects. • How utility is influenced by outside perceptions, and how people get utility from altruism and reciprocity. © 2014 by McGraw‐Hill Education 2 Utility basics • Utility is a measure of the amount of satisfaction a person derives from something. – Incorporates emotions and sensations. – Universal measure (or yardstick) that allows individuals to compare choices. – Not typically comparable across individuals. • Rational individuals maximize utility when making choices. – For example, if playing soccer for the next hour yields more utility than playing baseball, rational individuals will play soccer. © 2014 by McGraw‐Hill Education 3 1 Revealed preferences • Utility is hard to measure. • How can anything meaningful be said about the utility people experience? – Observe what people actually do. • The principle of revealed preference is that people’s preferences can be determined by observing their choices and behavior. • Unique to a specific choice of a particular person at one date. © 2014 by McGraw‐Hill Education 4 Utility functions • The principle of revealed preferences isn’t feasible for analyzing how people make choices. • Instead, a more formal method is required. • Utility functions aid in systematically analyzing choices. – A utility function is a formula for calculating the total utility that a particular person derives from consuming a combination of goods and services. • A bundle is a unique combination of goods and services that a person could choose to consume. © 2014 by McGraw‐Hill Education 5 Utility functions • Utility functions quantify preferences. • .

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