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Ordinal utility Managerial Economics


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Ordinal utility Managerial Economics

  1. 1. Indifference curve analysis 0 Developed - Edge worth 0 It was later preferred by J.R Hicks & R.J.D. Allen 0 indifference curve approach is also known as ordinal utility approach.. 0 consumer express their utility in terms of preference not in term of quantity.
  2. 2. ASSUMPTION OF INDIFFERENCE CURVE 0 A consumer is assumed to buy any two goods in combinations. 0 A consumer can rank the alternative combinations and compare their level of satisfaction, and he prefers a combination providing a higher level of satisfaction. 0 Consumer is rational and his choices are transitive. 0 The consumer behavior is assumed to be constant, throughout the analysis.
  3. 3. INDIFFERENCE CURVE Good Y 0 An indifference curve may be defined as the locus of various combination of two goods which yield the same total satisfaction to the consumer Good X
  4. 4. INDIFFERENT SCHEDULE For eg: 0 The following table shows the indifference schedule of combination of biscuits and cups of tea for a consumer. combination A B C D E F Cups of Tea 1 2 3 4 5 6 + + + + + + + Biscuits 50 38 26 21 17 15
  5. 5. Graphical representation of indifference schedule… Y 60 A BISCUITS 50 40 B 30 C D 20 E F 10 00 0 2 4 CUPS OF TEA 6 8 X
  6. 6. INDIFFERENCE MAP A collection of indifference curve is known as indifference map. 0 A higher indifference curve indicates a higher level of satisfaction and vise versa. Good y Y 0 0 Ic3 Ic2 Ic1 Good x X
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  8. 8. MARGINAL RATE OF SUBSTITUTION(MRS)  The MRS is the rate at which one commodity can be substituted for another, the level of satisfaction remaining the same.  The marginal rate of substitution between two commodities X and Y , may be defined as the quantity of X which is required to replace one unit of Y , in the combination of the two goods so that the total utility remains the same.
  9. 9. The MRS is depends upon the prices of the commodity. For ex; Two commodities like X and Y Prices of X is assumed as RS.10 price of Y is RS.5 .If a consumer have RS.200 as income he can purchase either 10 units of X and 20 units of Y .If the price of X increases consumer substitute more Y by reducing the consumption of X. The aim of consumer is maximum satisfaction with his limited income.
  11. 11. 1.INDIFFERENCE CURVE SLOPES DOWNWORD FROM LEFT TO RIGHT; Good Y 0 Indifference curve have a negative slope. It indicate the marginal rate of substitution of the consumer. Any point on indifference curve provide equal satisfaction . Good X
  12. 12. 2.CONVEXITY TO THE ORIGIN 0 The convexity of the indifference curves implies two properties 1. The two commodities are imperfect substitutes for one another. 2. The marginal rate of substitution (MRS) between two goods decreases as a consumer moves along an indifference curve. This characteristics of indifference curve is based on the postulate of diminishing marginal rate of substitution. Good Y
  14. 14. 4. HIGHER INDIFFERENCE CURVE SHOWS HIGHER LEVEL OF SATISFACTION Good Y An indifference curve placed above and to the right of another represents a higher level of satisfaction than the lower one. Consumers equilibrium 30 20 10 ic3 IC2 0 10 20 30 P IC1 P1 Good X Budget line
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