However, if we compare point B and point C, we can see that point C offers more of good A and good B (90 and 140) as compared to point B (80 and 130). As we already learned above, consumers always prefer larger quantities. Therefore both curves can’t provide the same level of satisfaction, which means they can never intersect. The indifference curves are sloped downwards to the right. The reason for the negative slope is that as a consumer increases the consumption of commodity X, he/ she sacrifices some units of commodity Y in order to maintain the same level of satisfaction.
In the following schedule (Table 1), the consumer is indifferent whether he buys the first combination of units of 18Y+1 unit of X or the fifth combination of 4 units of Y+5 units of X or any other combination. We have taken only one schedule, but any number of schedules can be taken for the two commodities. They may represent higher or lower satisfaction of the consumer. Therefore, the meaning of indifference curve analysis is an essential component of modern economic theory and will continue to play a significant role in the future. This article will explore what indifference curve analysis is, indifference curve analysis definition.
When he started consuming two cigarettes a day, his coffee consumption dropped to 8 cups a day. In the same way, we can see other combinations as 3 cigarettes + 5 cup coffee, 4 cigarettes + 3 cup coffee and 5 cigarettes + 2 cup coffee. According to diminishing marginal rate of substitution, the rate of substitution of commodity X for Y decreases more and more with each successive substitution of X for Y.
Price Theory and Applications
The last property of indifference curve is that a higher indifference curve will represent a higher level of satisfaction than a lower indifference curve. In other words, the combinations which lie on a higher indifference curve will be preferred to the combinations which lie on a lower indifference curve. Combination Q has been taken on a higher indifference curve IC2 and combination S on a lower indifference curve IC1. 8.5 two indifference curves are shown cutting each other at point C. Now take point on indifference curve IC2 and point B on indifference curve IC1 vertically below A. The budget line shows all combinations of two goods a consumer can purchase with a given income and prices.
As one moves along a straight-line indifference curve of perfect substitutes, marginal rate of substitution of one good for another remains constant. Examples of goods that are perfect substitutes are not difficult to find in the real world. For example, Dalda and Rath Vanaspati, two different brands of cold drink such as Pepsi Cola and Coca Cola are generally considered to be perfect substitutes of each other.
In this article, we discussed the definition, assumptions, and properties of the indifference curve. And also, we learned about What is the Marginal Rate of Substitution?. It is assumed that the consumer is consistent in his choice. For example, if there are two alternative bundles of commodities, say A and B, the consumer must choose.
Different Shapes of Indifference Curves
All those combinations of x and y, which gives an equal utility to the consumer, form an indifference curve (as in the following fig). Many core principles of microeconomics appear in indifference curve analysis including individual choice, marginal utility theory, income, substitution effects, and the subjective theory of value. The slope of the indifference curve is the marginal rate of substitution (MRS). The MRS is the rate at which the consumer is willing to give up or substitute one good for another.
What is Indifference Curve: Definition, Assumptions, Properties
- The consumer does not need to know correctly the amount of utility he gets as in the cardinal approach.
- Here only the combinations of x and y are different at each point, but the level of satisfaction which the consumer obtained from them is the same.
- Let’s start with a simple example of José’s preferences and assume he views T-shirts and movies as nearly perfect substitutes.
- These cases require modifications to the standard indifference curve approach.
- The trade indifference curve can be derived with the help of production possibility curve and the community indifference curve as shown in Fig.
As shown in Figure B3 (a), Manuel’s new utility maximizing choice at X will be seven movies and 32 yogurts—that is, Manuel will choose to spend most of the extra income on movies. Natasha’s new utility maximizing choice at Z will be eight movies and 28 yogurts—that is, she will choose to spend most of the extra income on yogurt. In this way, the indifference curve approach allows for a range of possible responses. However, if both goods are normal goods, then the typical response to a higher level of income will be to purchase more of them—although exactly how much more is a matter of personal preference. If one of the goods is an inferior good, the response to a higher level of income will be to purchase less of it.
Sketching Substitution and Income Effects
Explain any two properties (characteristics) of the indifference curve with the help of a diagram. (iii) If the community indifference curve is negatively sloped, the corresponding trade indifference curve is also negatively sloped. (ii) The slope of the trade indifference curve at any point is equal to the slope of the corresponding community indifference curve and the production possibility curve at the corresponding point. It means the slope of T at O is equal to the slope of I1 at R and the slope of T at O1 is equal to the slope of I1 at R1 (Fig. 4.4). (i) For every community indifference curve, there is a corresponding trade indifference curve.
- At the point Q though the number of bananas remains the same i.e., ON, yet the number of oranges increases from OM to OM1.
- This extension connects consumer theory with the economics of uncertainty and financial decision-making.
- And, diminishing marginal rate of substitution states that the rate by which a person substitutes X for Y diminishes more and more with each successive substitution of X for Y.
- (ii) According to indifference law if a consumer is indifferent between bundle A and B, and bundle B and C, then he will be indifferent over bundle A and C too.
The total utility of the consumer depends on the quantities of the commodities consumed.
If a consumer has a lot of good B, the MRS is 3 units of good B per unit of good A. If she has more of good A, the MRS is 0.5 units of good B per unit of good A. In other words, if they have a lot of good B, they are more willing to trade some of it in to get an additional unit of good A and vice versa. Because of this relationship, the indifference curve is bowed inward (i.e., convex).
(12) The consumer is in a position to order all possible combinations of the two goods. (5) The consumer’s tastes, habits and income remain the same throughout the analysis. The indifference curve analysis retains some of the assumptions of the cardinal theory, rejects others and formulates its own. The satisfaction or benefit derived from the consumption of a good or service. If an indifference curve is upward-sloping, it implies you are indifferent between a combination with a smaller amount of both good x and good y, and a combination with a larger amount of both good x and good y. The non-satiation principle tells us more is always better, and so the bundle with a larger amount of both good x and good y must be preferred.
You can think of perfect complements and perfect substitutes as polar extremes of preference relations. Figure 1.8 shows how a typical indifference curve lies between perfect complements and perfect substitutes. You should understand, when graphically represented, that the indifference curve for standard preferences lies between perfect complements and perfect substitutes. Figure 1.6 illustrates the process of drawing indifference curves for perfect complements. To create an indifference curve, we want to identify bundles that this college student is indifferent about consuming. If a bundle has more burritos, the student will have to have fewer sandwiches and vice versa.
Ordinal utility
Indifference curves represent various combinations of two goods with equal utility.Budget lines show all the combinations of goods that a consumer can afford given their income and prices. While indifference curves reflect preferences, budget lines represent purchasing power. The slope of the curve shows the rate of substitution between two goods, i.e. the rate at which an individual is willing to give up some quantity of good A to get more of good B. If we assume that the individual likes both goods, the quantity of good B has to increase as the quantity of good A decreases, to keep the overall level of satisfaction the same. Because both axes each represent one of the two goods, this relationship results in a downward sloping curve. This becomes pretty obvious if we look at the indifference map below.
Shows a whole set of indifference curves which is called an indifference map. An indifference map shows all the indifference curves which rank the preference of the consumer. The further away from each successive indifference curve what are the properties of indifference curve from the origin, the higher the level of utility it measures. In figure 5.2, four indifference curves IC1, IC2, IC3, and IC4 have been shown. When the scale of preference of the consumer is graphed, by joining the points a, b, c, d, e, we obtain an Indifference Curve IC.