Very Important 6 marks A Meaning of consumer equilibrium :- it a situation in which a consumer is getting maximum level of satisfaction from a commodity and has no tendency to bring change in pattern of consumption. Table also reports the ratio of the consumer's marginal utility to the price of each good. Such a process of substitution goes on till the marginal utility of the last unit of money spent on X and on Y becomes equal to each other. Human being are not calculating machines. Given a set of market prices, his wants and his income, the consumer may be said to be in equilibrium when marginal utilities have been equalized and maximum satisfaction obtained.
The position may, however, seem unrealistic. In this case, the consumer is getting more marginal utility per rupee in case of good X as compared to Y. If, for example, the marginal utility per dollar spent on good 1 were higher than the marginal utility per dollar spent on good 2, then it would make sense for the consumer to purchase more of good 1 rather than purchasing any more of good 2. At this point, his total utility is the maximum. Thus, both the conditions need to be fulfilled for a consumer to be in equilibrium. In case the price of one commodity rises, less of this commodity and more of the other commodities will be purchased so that the proportion will be restored.
We know, marginal utility is expressed in utils and price is expressed in terms of money However, marginal utility and price can be effectively compared only when both are stated in the same units. In the case of durable goods it may not be possible to maintain proportionality. The Law of Equi-marginal Utility or the Principle of Substitution follows from the Law of Diminishing Marginal Utility. The rise and fall of the demand for a good as per the rise in income of consumers depends upon the nature of good. The indifference curve technique is free from these shortcomings. In the figure above, there are three indifference curves, Viz.
It is assumed that the consumer knows the different goods on which his income can be spent and the utility that he is likely to get out of such consumption. If he spends all the five rupees on X, the last rupee spent on X would give 10 units utility, but if that rupee is spent on Y i. In the case of durable goods, it may not be possible to maintain proportionality. Both these commodities are priced at Rs. Properties of Indifference Curve Indifference Curve slopes downward, consumer prefer more goods to fewer goods. Demand is inelastic over the price range O to P 1. Consumer equilibrium refers to a situation, in which a consumer derives maximum satisfaction, with no intention to change it and subject to given prices and his given income.
It refers to a position of rest, which provides the maximum benefit or gain under a given situation. Thus, the consumer tries to reach to the highest possible indifference curve with two strong constraints: limited income and market price of goods and services. One may guess that he should go on buying a good which costs twice as much per unit as another until he ends up in his equilibrium bringing him just twice as much in marginal utility. Here, D 1D 1 and S 1S 1 represent the market demand and market supply respectively. This implies that higher profits can be achieved by increasing the level of output to 4 units. In the second case, we assume that a consumer has to pay the price for all the units consumed by him. On the other hand, if the price goes up, naturally less will be purchased and the marginal utility goes up till it reaches the new higher level of price.
In reality it is not so. Know about Subscribe to our social channel. The consumer can make different combinations of goods by consuming less of one commodity or the other in such a way that all the combinations yield the same level of satisfaction. Both these assumptions have come under heavy fire by modern economists, the foremost amongst them being Professor J. There will then be no inducement to revise his scheme of expenditure. Elasticity of demand to a commodity depends upon a number of factors, among which the most important are availability of substitutes, nature of commodity—necessity, comfort or luxury; price of commodity, alternative uses of the commodity, etc.
How does a consumer decide as to how much to buy of a good? Now, the marginal utility of money expenditure on a good is equal to the marginal utility of the good divided by its price. In case the price of one commodity rises, less of this commodity and more of the other commodities will be purchased so that the proportion will be restored. He or she cannot change its quality from cold to normal as normal water give different satisfaction. But, it is pointed out that utility, being a subjective concept, cannot be measured. According to them, the utility cannot be measured in monetary terms. When a market is shared between a few firms, it is said to be highly concentrated.
Then he has no desire to buy any more of one commodity and less of another. First, the availability of substitute goods affects the elasticity of demand. If indifference curve is concave and not convex to the origin, then it will not be the point of equilibrium. By price elasticity of demand we meant the responsiveness of demand for a commodity to a change in its price. If it is found that the marginal utility of the last unit of money spent on say, X commodity is greater than that derived from another commodity, say, Y commodity, he substitutes X for Y. So, he will substitute Y for X. Income Elasticity of Demand : By income of demand we mean the responsiveness of demand for a commodity to a change in the income of the consumers.
At this point, his total utility is the maximum. Normal goods have a positive income elasticity of demand, so as consumers' income rises, more will be the demand. Law of equi-marginal utility is based on law of diminishing marginal utility. As per this law, a consumer allocates his expenditure between two commodities in such a manner that the utility derived from each additional unit of the rupee spent on each of the commodities is equal to the marginal utility of money. In the partial equilibrium analysis, we focus our attention on individual economic units i. Demand Deposits also known as Current Account deposits refer to those deposits that provide the depositor the liberty to withdraw money at any point of time.