Flashcard: Consumer Choice and Utility Theory — 20 carte

Utility Function — definition?

Mathematical representation of preferences, assigning real numbers.

Completeness & Transitivity — role?

Ensure preferences can be represented by a utility function.

Expected Utility — purpose?

Evaluate risky prospects using probability-weighted utility.

Willingness-to-Pay — meaning?

Maximum amount a consumer is willing to pay for an additional unit.

Marginal Utility — what?

Additional utility from consuming one more unit.

Quasilinear Utility — form?

U(q, t) = V(q) + t, separating good and money.

Budget Constraint — formula?

t + pq = I, total expenditure equals income.

Utility Maximization — condition?

Marginal utility per dollar equalized across goods.

Law of Demand — basis?

Decreasing marginal utility causes inverse price-quantity relationship.

Price Elasticity — measure?

Responsiveness of demand to price changes.

Elastic Demand — 𝜀?

Greater than 1; demand is sensitive to price changes.

Inelastic Demand — 𝜀?

Less than 1; demand is less responsive to price changes.

Substitutes — effect of price increase?

Demand for substitute increases, shifting demand right.

Completeness — assumption?

Consumers can always compare and rank options.

Transitivity — assumption?

Preferences are consistent: A>B and B>C implies A>C.

Expected Utility — key idea?

Evaluate risky options via probability-weighted utility.

Marginal Rate of Substitution — formula?

MU₁ / MU₂, rate of substituting goods at constant utility.

Normal Good — demand?

Increases with income.

Inferior Good — demand?

Decreases as income rises.

Substitutes & Complements — effect?

Substitutes: demand rises when substitute's price rises; complements: demand falls.