Consumer’s equilibrium by indifference curve
Let us explain with the help of indifference curves, how a consumer reaches an equilibrium position. The consumer is said to be in equilibrium when he obtains maximum satisfaction from various goods consumption.
Statement of the law: The main aims of consumer’s attain the maximum satisfaction. For this reason, he will choose that combination wjhich will give the greater satisfaction and do not want to change that desired combination. In this optimum combination he obtain equilibrium position.
Equilibrium conditions:
(A) The budget line is tangent to an indifference curve.
(B) The slope of budget line must be equal to the slope of an indifference curve.
(C) The indifference curve must be convex to the origin.
Assumptions: The assumptions on which the analysis is base are:
i) Our consumer has an indifference map showing the scale of preferences for various combinations of the two goods apple and mangoes. This scale of preference remains same through out the analysis.
ii) He has given constant amount of money i.e. budget is constant.
iii) Prices of the goods in the market are given and constant.
iv) Each of the goods is homogenous and divisible.
v) The consumer acts rationally.
vi) Marginal utility of money constant.
Explanation: Now we can explain the indifference map and budget line.
Indifference map: A set of indifference curves is called indifference map.Let us explain with the help of indifference curves, how a consumer reaches an equilibrium position. The consumer is said to be in equilibrium when he obtains maximum satisfaction from various goods consumption.
Statement of the law: The main aims of consumer’s attain the maximum satisfaction. For this reason, he will choose that combination wjhich will give the greater satisfaction and do not want to change that desired combination. In this optimum combination he obtain equilibrium position.
Equilibrium conditions:
(A) The budget line is tangent to an indifference curve.
(B) The slope of budget line must be equal to the slope of an indifference curve.
(C) The indifference curve must be convex to the origin.
Assumptions: The assumptions on which the analysis is base are:
i) Our consumer has an indifference map showing the scale of preferences for various combinations of the two goods apple and mangoes. This scale of preference remains same through out the analysis.
ii) He has given constant amount of money i.e. budget is constant.
iii) Prices of the goods in the market are given and constant.
iv) Each of the goods is homogenous and divisible.
v) The consumer acts rationally.
vi) Marginal utility of money constant.
Explanation: Now we can explain the indifference map and budget line.
Budget line: An individual budget line expresses how much a person is able to consume. The consumer attains the equilibrium when higher indifference curve is tangent to the budget line.
Figure identification: OX axis- Quantity of good X
OY axis- Quantity of good Y
AB curve- Budget line
I1, I2, I3 are three indifference curve. The budget line is tangent to the indifference curve I2 at the point D. The consumer gets OL of good X and OP of good Y. This is the larger quantity of utility, which the consumer can get from a cost outlay AB. He will not move to other indifference curve I1 because it will give lower utility to him. As a result he will not choose C or E. Again he cannot move to I3 because of budget constraint.
Therefore, we can say that D is the optimum combination for him. Other two conditions for consumer’s equilibrium are-
1) The slope of indifference curve must be equal the slope of the budget line:
The essential condition is that the slope of indifference curve must be equal the slope of the budget line. At ‘D’ the slope of indifference curve is the MRS of x for y and the slope of the budget line is the ratio of the price of x and y.
2) The indifference curve should be convex to the origin:
This is a necessary but not sufficient condition for consumer equilibrium. At the point of tangency the indifference curve must be convex to the origin.
Indifference curve I1 tangent to price line at point S but at that point it is concave to the origin instead of convex i.e. here MRSxy is increasing which is not possible and equilibrium cannot be achieved. IC curve I2 tangent to price line at point P and it is convex to origin at that point where MRSxy is diminishing and fulfill the conditions of equilibrium.
Figure identification: OX axis- Quantity of good XOY axis- Quantity of good Y
AB curve- Budget line
I1, I2, I3 are three indifference curve. The budget line is tangent to the indifference curve I2 at the point D. The consumer gets OL of good X and OP of good Y. This is the larger quantity of utility, which the consumer can get from a cost outlay AB. He will not move to other indifference curve I1 because it will give lower utility to him. As a result he will not choose C or E. Again he cannot move to I3 because of budget constraint.
Therefore, we can say that D is the optimum combination for him. Other two conditions for consumer’s equilibrium are-
1) The slope of indifference curve must be equal the slope of the budget line:
The essential condition is that the slope of indifference curve must be equal the slope of the budget line. At ‘D’ the slope of indifference curve is the MRS of x for y and the slope of the budget line is the ratio of the price of x and y.
2) The indifference curve should be convex to the origin:
This is a necessary but not sufficient condition for consumer equilibrium. At the point of tangency the indifference curve must be convex to the origin.
Indifference curve I1 tangent to price line at point S but at that point it is concave to the origin instead of convex i.e. here MRSxy is increasing which is not possible and equilibrium cannot be achieved. IC curve I2 tangent to price line at point P and it is convex to origin at that point where MRSxy is diminishing and fulfill the conditions of equilibrium.
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