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23 Cards in this Set
- Front
- Back
theory of choice
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the interaction of preferences and constraints that cause people to make the choices they do
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utility
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the pleasure that people get from their economic activity
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ceteris paribus assumption
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in economic analysis, holding other factors constant so that only the factor being studied is allowed to change
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three assumptions of preferences
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completeness
transitivity more is better |
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completeness
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assumption that someone is able to state which of any two options is preferred
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transitivity
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if a is preferred to b, and b is preferred to c, then a is preferred to c
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more is better
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more of a good is preferred to less
figure 2.1 |
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indifference curve
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curve that shows all the combinations of goods or services that provide the same level of utility
person is indifferent to which combination |
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Marginal rate of substitution
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the rate at which someone is willing to reduce consumption of one good when they get one more unit of another good.
negative slope of the indifference curve mrs = 2 = individual is willing to give up two of good Y for one more of good X More x less y |
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diminishing MRS
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convex shape.
any consumption bundle that represents that avg between two equally attractive extremes will be preferred to those extremes. people prefer variety in consumption choices |
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indifference curve maps
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a contour map that shows the utility an individual obtains form all possible consumption options
every point must have only one indifference curve passing through it |
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vertical indifference curve
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sign of useless good
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increasing linear indifference curve
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economic bad
houseflies |
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strainght line, decreasing indifference curve
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perfect substitutes
MRS=1 along any indifference curve |
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L shaped
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perfect complements
left shoe right shoe |
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Utility Maximization
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1) spend entire income amount
2) MRS should equal ratio of those goods market prices |
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budget constraint
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limit that ones income places on the combinations of good that an individual can buy
y intercepts is I/Py |
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Xmax/Ymax
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number of units purchased if all income spent on X. same for y
y expensive, x cheap = flatter |
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Slope of budget constraint
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-Px/Py
shows opportunity cost of of buying one more unit of x if Px=4 amd Py=1 then slope = -4. therefore for every additional unit of x requires that y purchases are reduced by 4 |
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problems with perfect substitutes
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spend all income on good that is least expensive given the utility provided
when perfect substitues but not identical (different utility), then need to incorporate most bang for your buck |
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problems: perfect complements
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2 bags of candy for each movie
C=2M |
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problems: middle ground
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MRS = y/x
MRS = Px/Py = 2 y/x=2 y=2x substitute |
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composite good
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combining expenditures on severl different goods whose relative prices do not change into a single good for convenience of analysis
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