Professional Documents
Culture Documents
Consumer
Behavior
Choice & utility
Consumers play an important role in determining the demand for a firm’s
products. They are quality conscious and price sensitive. The success of
a product is dependent on the consumers’ acceptance of the product.
Price sensitive customers like to buy products in small quantities at
affordable prices. For example, Motorola had initially launched seven
models of cellular phones at high prices but none of them were
successful. On the other hand, Nokia launched a simple cellphone at an
affordable price, which captured the market. Therefore, firms must try
to offer products that are of high quality, at affordable prices. Consumer
behavior is an important determinant of the type of product a firm
should produce. Before launching a product a firm has to take into
consideration its target customers tastes and preferences. For example,
when Dabur Foods launched Real orange juice, consumers rejected it
because it tasted bitter. Research revealed that Indian consumers
wanted juices to be sweeter. Dabur then modified Real’s taste by
sweetening the orange juice.
Consumer behavior assumes that every individual tries to maximize his
satisfaction by consuming products and service with the limited income
available to him at a particular time. This limited income can also be
referred to as the budget constraint.
consumer behavior theory explains the relationship
between changes in price and consumer demand.
Variations in price determine whether a particular
product is in demand or not. If the demand for a
product is low in spite of the price being less, it can
be said that consumers are not accepting that
product. On the other hand, if the demand for a
particular product is high, then the price of the
product would increase. Hence, the manufacturer
can determine and fix prices of their products
according to the consumer demand. Thus,
consumer behavior plays an important role for
manufacturers decision making.
CHOICE AND UTILITY THEORY
1 2 3 4 5 6 7 QX/ut
The demand function has a negative slope because of
the
income
Income and As
effect: substitution
the price effects.
of a good that you buy increases
and money incomeis held constant, your real income decreases
and you can not afford
to buy as much as you P
could before.
Substitution effect: As X5
the price of one good rises
4
relative to the prices of De
other goods, you will tend 3 m
to substitute the good 2
a nd
that is relatively cheaper 1
for the good that is
relatively more expensive. 1 2 3 4 5 6 7 QX/ut
Income effects
As the price of a good that you buy
increases, you will have less real
income.
This is the basis of price indices that
measure changes in real income as
prices rise or fall.
The consumer price index is one of
the indices that is used [currently
there is a debate about how it is
calculated].
Substitution Effects
pl
$6.80 for the first unit. 7
Sup
They receive utility 6.8
that they did not have 0 6
y
.
to pay for [6.80-3.00]. 5 consume
This is called consumer
4 r
surplus.
surplus
De
3 m
At market
2
a nd
Consumer surplus will be
equilibrium,
the area above the market 1
price and below the
demand 1 2 3 4 5 6 7 QX/ut
function.
Demand
Demand functions can be derived from
utility [cardinal measures] or indifference
functions [ordinal measures]
Normally, demand functions show and
inverse relationship between price and
quantity
a change in price “causes” a change in
“quantity demanded”
a change in any other variable [income,
prices of related goods, population,
preferences, . . .] will “cause a change in
demand” or shift of demand
The Indifference Curve
Diminishing MRS
5. A bundle that has more of all goods is on
preferred to less
Indifference Curves
Rational--behave consistently
Good
Y
Indifference
Curve
Good
5 X
Good
Y
5
I
4
I Indifference
3
Map
I
2
I
1 Good
5 X
Indifference Curve:
All Bundles among which
a consumer is indifferent
B D
I
2
Indifference
A
curve, I
1
0 Quantit
yof
Pizza
Representing Preferences with
Indifference Curves
An indifference curve is a curve that shows
consumption bundles that give the
consumer the same level of satisfaction.
Representing Preferences with
Indifference Curves
The Consumer’s Preferences
◦ The consumer is indifferent, or equally happy,
with the combinations shown at points A, B,
and C because they are all on the same
curve.
The Marginal Rate of Substitution
◦ The slope at any point on an indifference
curve is the marginal rate of substitution.
It is the rate at which a consumer is willing to trade
one good for another.
It is the amount of one good that a consumer
requires as compensation to give up one unit of
the other good.
Figure 21-2. The
Consumer’s Preferences
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yof
Pepsi
C
B D
MR I
S 1
2
Indifference
A
curve, I
1
0 Quantit
yof
Pizza
Four Properties of Indifference
Curves
Higher indifference curves are preferred to
lower ones.
Indifference curves are downward sloping.
Indifference curves do not cross.
Indifference curves are bowed inward.
Figure 21-2. The Consumer’s
Preferences
Quantit
yof
Pepsi
C
B D
I
2
Indifference
A
curve, I
1
0 Quantit
yof
Pizza
Four Properties of Indifference
Curves
Property 2: Indifference curves are
downward sloping.
◦ A consumer is willing to give up one good only if
he or she gets more of the other good in order
to remain equally happy.
◦ If the quantity of one good is reduced, the
quantity of the other good must increase.
◦ For this reason, most indifference curves slope
downward.
Figure 21-2. The Consumer’s
Preferences
Quantit
yof
Pepsi
Indifference
curve, I
1
0 Quantit
yof
Pizza
Figure 21-3. The Impossibility of Intersecting
Indifference Curves
Quantit
yof
Pepsi
C
0 Quantit
yof
Pizza
Four Properties of Indifference
Curves
Property 4: Indifference curves are bowed
inward.
◦ People are more willing to trade away goods that
they have in abundance and less willing to
trade away goods of which they have little.
◦ These differences in a consumer’s marginal
substitution rates cause his or her indifference
curve to bow inward.
OPTIMIZATION: WHAT THE
CONSUMER CHOOSES
Quantit
yof
Pepsi
Optimu
m
B
A
I
3
I
I 2
1
Budget
constraint
0 Quantit
yof
Pizza