Indifference curves were first developed by Francis Ysidro Edgeworth and used by Vilfredo Pareto to show combinations of goods that provide equal utility to a consumer. Each point on an indifference curve indicates equal satisfaction. Indifference curves slope downward, are convex, do not intersect, and higher curves represent higher satisfaction levels. Consumer equilibrium occurs where a consumer maximizes satisfaction given prices and income. A price change leads to substitution and income effects that impact the quantity demanded. Revealed preference theory, developed by Paul Samuelson, studies actual consumer behavior and assumes utility as ordinal.

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Topic:
Indifference Curve

2. Simple History
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The concept of indifference curve was
first developed by British economist
Francis Ysidro Edgeworth and was put
into use by Italian economist Vilfredo
Pareto during the early 20th century.

3. Indifference Curve
 An indifference curve is a graph
showing combination of two goods that
give the consumer equal satisfaction
and utility.
 Each point on an indifference curve
indicates that a consumer is indifferent
between the two and all points give him
the same utility.
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20
10
10
5
Combination Good A Good B
A 10 10
B 20 5

4. Explanation of Indifference Curve
 The above diagram shows the U
indifference curve showing bundles of
goods A and B. To the consumer,
bundle A and B are the same as both of
them give him the equal satisfaction.
 In other words, point A gives as much
utility as point B to the individual. The
consumer will be satisfied at any point
along the curve assuming that other
things are constant.
6
20
10
10
5
Combination Good A Good B
A 10 10
B 20 5

5. Assumptions of Indifference
Cur ve
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Two Commodities: It is
assumed that the consumer has
fixed amount of money, all of
which is to be spent only on
two goods while prices of both
goods are constant.

6. Non Satiety: Satiety means full
satisfaction. Indifference curve theory
assume that the consumer has not yet
reached the point of satiety. It implies
that the consumer still has the will to
consume more of both the goods.

7. Ordinal Utility: According to this theory,
utility is a psychological phenomenon and
thus it is unquantifiable. However, the theory
assumes that a consumer can express utility
in terms of rank. The consumer can do it by
the basis of satisfaction yielded from each
combination of goods.

8. Diminishing Marginal Rate of
Substitution: Marginal rate of substitution
may be defined as the amount of a
commodity that a consumer is willing to trade
off for another commodity, as long as the
second commodity provides the same level of
utility as the first one.

9. Rational Consumer: A consumer
always behaves in a rational manner,
i.e. a consumer always aims to
maximize his total satisfaction.

10. Properties of Indifference Curve 9
There are 4 basic properties of an indifference curve. These are -
1. Indifference Curve Slope Downwards to Right:
 An indifference curve can neither be horizontal
line nor an upward sloping curve.
When a consumer wants to have more of a
commodity, he/she will have to give up some of the
other commodity, given that the consumer remains
on the same level of utility at constant income.
As a result, the indifference curve slopes downward
form left to right.

11.  This is an important property of
indifference curves. They are convex to
the origin (bowed inward). This is
equivalent to saying that as the consumer
substitutes commodity X for commodity
Y,the marginal rate of substitution
diminishes of X for Y along an
indifference curve.
 In this figure (3.6) as the consumer
moves from A to B to C to D, the
willingness to substitute good X for
good Y diminishes. This means that as
the amount of good X is increased by
equal amounts, that of good Y
diminishes by smaller amounts. The
marginal rate of substitution of X for Y
is the quantity of Y good that the
consumer is willing to give up to gain a
marginal unit of good X. The slope of IC
is negative. It is convex to the origin.
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 2. Indifference Curve is Convex to the Origin:

12.  3. Indifference Curve Cannot Intersect Each Other: 11
Each indifference curve is a representation of
particular level of satisfaction.
The level of satisfaction of the consumer for
any given combination of two goods is same
throughout the curve, that’s why indifference
curve cannot intersect each other.

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 4. Higher Indifference Curve Represents Higher level
of Satisfaction:
Higher the indifference curves, higher will be
the level of satisfaction. This means any
combination of two goods on the higher
curve give higher level of satisfaction to the
consumer then the lower one.

14. Consumer Equilibrium
Consumer’s Equilibrium means a state of
maximum satisfaction. A situation where a
consumer spends his given income
purchasing one or more commodities so that
he gets maximum satisfaction and has no
urge to change this level of consumption,
given the prices of commodities, is known as
the consumer’s equilibrium.

15. Price Effect (PE)
A change in price of good X brings about a change
in the quantity demanded of it, ceteris paribus. This
change in the quantity demanded is called price
effect.
Price effect is split into two components:
Substitution effect (SE); and
Income effect (IE).

16. Substitution Effect (SE)
The substitution effect is the increase in the quantity
bought as the price of the commodity falls, after
adjusting income so as to keep the real purchasing
power of the consumer the same before.
This adjustment in income is called compensating
variation and is shown graphically by a parallel shift of
the new budget line until it becomes tangent to the
initial indifference curve.

17. Income Effect (IE)
It states that a change in the price of a good
will bring about a change in the real income
(purchasing power) of the consumer, which in
turn brings about a change in the quantity
demanded of the good.
The IE operates on the assumption that
relative price of goods remains constant.

18. Revealed Preference Theory
Meaning: When a consumer buys a
commodity he reveals his preference for it.
Revealed preference theory was developed
by Paul A. Samuelson in 1938. This theory
was developed as an alternative theory of
demand based on observed market behaviour
of consumers.

19. Samuelson has criticised the marginal utility
and indifference curve theories for studying
consumers’ behaviour, by describing them as
introspective. Samuelson rejected the weak
ordering hypothesis given by Hicks and built
up his theory on strong ordering hypothesis.

20. The theory is also known as
behavioristic- ordinalist approach.
It is behavioristic because it relies on
actual market behavior; and ordinals
because it assumes utility as an
ordinal concept.

21. This theory derives the law of demand in a
direct and simple manner.
Samuelson deduced the fundamental theorem of
consumption which states that demand for a
commodity and its price are inversely related
provided income elasticity of demand is
positive.