Presentation on theme: "Chapter 20 – Consumer Choice"— Presentation transcript:
1 Chapter 20 – Consumer Choice There have been shifts in air travel away from facilities located in larger metro areas.San Francisco International Airport saw a decline in air passenger traffic, while Oakland International Airport had a gain.At Cleveland Hopkins International Airport passenger volume also fell, while Ohio’s Akron-Canton Airport saw volume rise.
2 Learning ObjectivesDistinguish between total utility and marginal utilityDiscuss why marginal utility at first rises but ultimately tends to decline as a person consumes more of a good or serviceExplain why an individual’s optimal choice of how much to consume of each good or service entails equalizing the marginal utility per dollar spent across all goods and services
3 Learning ObjectivesDescribe the substitution effect of a price change on the quantity demanded of a good or serviceUnderstand how the real-income effect of a price change affects the quantity demanded a good or serviceEvaluate why the price of diamonds is so much higher than the price of water even though people cannot survive long without water
4 Did You Know That...There has been a proliferation of choices at U.S. grocery stores, which now stock an average of 40,000 items?One way of deriving the law of demand involves an analysis of the logic of consumer choice in a world of limited resources?In this chapter we discuss what is called utility analysis.
5 Utility Theory Utility Utility Analysis Util The want-satisfying power of a good or serviceUtility AnalysisThe analysis of consumer decision making based on utility maximizationUtilA representative unit by which utility is measured
6 Utility Theory Marginal Utility The change in total utility due to a one-unit change in the quantity of a good or service consumedMarginal utility =Change in total utilityChange in number of units consumed
7 Graphical AnalysisWe can appreciate total and marginal utility by using graphical analysis.
8 Figure Total and Marginal Utility of Downloading and Listening to Digital Music Albums, Panel (a)
9 Figure Total and Marginal Utility of Downloading and Listening to Digital Music Albums, Panel (b)
10 Figure Total and Marginal Utility of Downloading and Listening to Digital Music Albums, Panel (c)
11 Figure 20-1 Total and Marginal Utility of Downloading and Listening to Digital Music Albums, Panels (b) and (c)Total utility ismaximized...…where marginalutility equals zero.
12 Graphical Analysis Observations Marginal utility falls as more is consumed.Marginal utility equals zero when total utility is at its maximum.
13 Example: The High Cost of Certain Sources of Negative Marginal Utility Conventional wisdom says that it is impossible to put a price tag on happiness.Economists usually attempt to attach dollar values to economic goods.What is the amount of compensation required for economic “bads?”
14 Diminishing Marginal Utility The principle that as more of any good or service is consumed, its extra benefit declinesIncreases in total utility from consumption of a good or service become smaller and smaller as more is consumed during a given time period.
15 Example: Newspaper Vending Machines versus Candy Vending Machines How many people take more than one paper from the vending machine?Why not dispense candy the same way?The answer is found in the concept of diminishing marginal utility.
16 Optimizing Consumption Choices Consumer OptimumA choice of a set of goods and services that maximizes the level of satisfaction for each consumer, subject to limited income
17 Table Total and Marginal Utility from Consuming Music Album Downloads and Sandwiches on an Income of $26
18 Table Total and Marginal Utility from Consuming Music Album Downloads and Sandwiches on an Income of $26
19 Table Total and Marginal Utility from Consuming Music Album Downloads and Sandwiches on an Income of $26
20 Optimizing Consumption Choices A consumer’s money income should be allocated so that the last dollar spent on each good purchased yields the same amount of marginal utility (when all income is spent), because this rule yields the largest possible total utility.
21 Optimizing Consumption Choices A little mathThe rule of equal marginal utilities per dollar spentA consumer maximizes personal satisfaction when allocating money income in such a way that the last dollars spent on good A, good B, good C, and so on, yield equal amounts of marginal utility.
22 Optimizing Consumption Choices A little mathThe rule of equal marginal utilities per dollar spentMU of good APrice of good A=MU of good BPrice of good BMU of good ZPrice of good Z...
23 How a Price Change Affects Consumer Optimum Recall from Table 20-1 Income = $26Qd = 4MUdPd36.55== 7.3Qs = 2MUsPs223
24 How a Price Change Affects Consumer Optimum Assume Price of Music Falls to $4Qd = 4MUdPd36.54== 9.125Qs = 2MUsPs223= 7.3
25 How a Price Change Affects Consumer Optimum Assume Price of Music Falls to $4ResultBuy more downloads and MUd fallsNowMUdPd>MUsPs
26 How a Price Change Affects Consumer Optimum Consumption decisions are summarized in the law of demandThe amount purchased is inversely related to price.A consumer’s response to a price changeAt higher consumption rate, marginal utility falls.
27 Figure 20-3 Digital Music Download Prices and Marginal Utility
28 How a Price Change Affects Consumer Optimum The Substitution EffectThe tendency of people to substitute cheaper commodities for more expensive commodities
29 How a Price Change Affects Consumer Optimum The Principle of SubstitutionConsumers and producers shift away from goods and resources that become priced relatively higher in favor of goods and resources that are now priced relatively lower.
30 How a Price Change Affects Consumer Optimum Purchasing PowerThe value of money for buying goods and services
31 How a Price Change Affects Consumer Optimum Real-Income EffectThe change in people’s purchasing power that occurs when, other things being constant, the price of one good that they purchase changesWhen that price goes up (down), real income, or purchasing power, falls (increases).
32 The Demand Curve Revisited QuestionHow is the demand curve derived?AnswerBy presuming income, tastes, expectations, and the price of related goods are not changing as the price of the good changes
33 The Demand Curve Revisited Marginal utility, total utility, and the diamond-water paradoxWater is essential to life but cheap.Diamonds are not essential to life but expensive.
35 Issues and Applications: The Upside of Taking Off from a Less Convenient Airport According to the principle of substitution, people shift away from consuming items that become priced relatively higher in favor of items that are now priced relatively lower.In recent years, the principle of substitution has applied to the services offered by several major airports.Many consumers of air travel are choosing to drive some distance before they depart to their ultimate destinations by plane.
36 Issues and Applications: The Upside of Taking Off from a Less Convenient Airport Weighing relative marginal utilities and pricesOpting to avoid hassles that reduce marginal utilityResponding to price changes
37 Table 20-3 Selected Substitute Airport Pairs in the United States
38 Summary Discussion of Learning Objectives Total utility versus marginal utilityTotal utility is total satisfaction from consumption.Marginal utility is the additional satisfaction from consuming an additional unit.Law of diminishing marginal utilityMarginal utility ultimately declines as a person consumes more and more of a good or service.
39 Summary Discussion of Learning Objectives The consumer optimumOccurs when the marginal utility per dollar spent on the last unit consumed is equalizedThe substitution effect of a price changeA person will substitute among goods by buying less of a good when its price increases.
40 Summary Discussion of Learning Objectives The real-income effect of a price changeA price change affects the purchasing power of an individual’s available income.Why the price of diamonds exceeds the price of water even though people cannot long survive without waterMarginal utility, not total utility, determines how much people are willing to pay.