Consumer Behaviour and Demand
Consumer Behaviour and Demand tests utility analysis, indifference-curve reasoning, the law of demand and the measurement of price elasticity. Expect a numerical on elasticity and a diagram question on consumer's equilibrium.
Core rules
- Total utility rises while marginal utility (MU) falls; when MU = 0, TU is maximum. The law of diminishing MU explains the downward-sloping demand curve.
- Consumer's equilibrium, one good: MU in money terms = price. Two goods: MUx/Px = MUy/Py = MUm.
- Indifference curves are downward sloping, convex to the origin and never intersect; a higher curve means higher satisfaction.
- The budget line has slope Px/Py. Equilibrium is at the tangency point where MRS = Px/Py.
- Law of demand: inverse price-quantity relation, other things constant. Exceptions: Giffen goods, status symbols, fear of shortage.
- Ed = percentage change in quantity divided by percentage change in price. Use the absolute value.
Worked example
Price falls from ₹10 to ₹8, and quantity rises from 100 to 130 units. Percentage change in quantity = 30/100 × 100 = 30%. Percentage change in price = 2/10 × 100 = 20%. Ed = 30/20 = 1.5. Since Ed exceeds 1, demand is elastic, and total expenditure rises from ₹1,000 to ₹1,040, which agrees with the total expenditure test.
Traps that cost marks
- Forgetting that a movement along the demand curve is caused by own price, while a shift is caused by income, tastes or prices of related goods.
- Treating income elasticity of an inferior good as positive; it is negative.
- In the total expenditure method, concluding elastic when price and expenditure move in the same direction; that means inelastic.