This document provides an overview of microeconomics and consumer behavior concepts. It discusses consumption, consumer preferences, budget constraints, utility, marginal utility, indifference curves, and the law of diminishing marginal utility. The key points are: 1. Consumption refers to the use of goods and services for direct satisfaction. Consumer behavior examines how consumers allocate income to purchase different goods based on preferences within budget constraints. 2. Utility is a measure of satisfaction from consuming goods. Marginal utility is the change in satisfaction from an additional unit of a good and diminishes as consumption increases according to the law of diminishing marginal utility. 3. Indifference curves illustrate combinations of goods that provide equal utility. The slope

1. ‫الرحی‬ ‫الرحمن‬ ‫هللا‬ ‫بسم‬‫م‬

2. Micro Economics
Chapter 2
consumer behavior
Ahsanullah Mohsen M.Sc.
Ahsanullah.mohsen@ruhr-uni-Bochum.de

3. • Consumption
Consumption means the use of goods or services for direct satisfaction.
Everybody daily consume various kinds of goods. They buy most of
these goods from the market and have to pay the price.
Consumption of goods may be divided into three main groups.
i) Durable goods, such as car and washing machine
ii) Non-durable goods, such as meat and milk
iii) Services, for example education, doctor

4. Consumer Behavior
• The explanation of how consumers allocate income to the purchase of
different goods and services
• The behavior of the people with regard to selection, purchase and
consumption of goods and services for satisfaction of their wants is known as
consumer behavior
principles on which a consumer acts:
1. Law of diminishing marginal utility: consumption of the first unit has more
utility than the second.
2. Order of preferences: scarcity compels choices.
3. Shortlist for greater utility: reduces the no. of the commodities on the list
4. Price and purchase: the quantity of consumption is specified

5. There are three steps involved in the study of consumer behavior
1. Consumer Preferences
• To describe how and why people prefer one good to another
2. Budget Constraints
• People have limited incomes
3. Given preferences and limited incomes, what amount and type of
goods will be purchased?
• What combination of goods will consumers buy to maximize their
satisfaction?

6. Consumer Preferences – Basic Assumptions
1. Preferences are complete
• Consumers can rank market baskets
2. Preferences are transitive
• If they prefer A to B, and B to C, they must prefer A to C
3. Consumers always prefer more of any good to less
• More is better

7. Utility
• A numerical score representing the satisfaction that a consumer gets from a given market
basket
• Utility is the power or ability of a good or service to satisfy a human want.”
Characteristics of Utility
• relative term: changes according to circumstances
• Depends upon human want: Strong desire for a good increases its utility
• Subjective: There are no units to measure utility
• depends on time and place: Ice possesses great utility in summer but little in winter
• depends upon knowledge: A computer has no utility for a person who does not know its use
• different from usefulness: smoking cannot be called useful although it has utility for the smoker
• basis of demand: People buy those goods which has the utility

8. Marginal Utility, Total Utility & Their Relation
• Total utility: is the total amount of satisfaction a person derives
from consuming some good.
• Marginal utility: is the change in total utility due to consumption of
one more unit of a good. It is the utility of the last unit consumed.
• Zero utility: (point of satisfaction), it means the consumer has no
further desire for the commodity.

9. Marginal rate of substitution
The marginal rate of substitution (MRS) is the rate at which a consumer is ready to
give up one good in exchange for another good while maintaining the same level of
utility.
Indifference curves are convex
• As more of one good is consumed, a consumer would prefer to give up fewer units of a
second good to get additional units of the first one
The MRS decreases as we move down the indifference curve
• Along an indifference curve there is a diminishing marginal rate of substitution
Indifference curves with different shapes imply a different willingness to
substitute
• Two polar cases are of interest
• Perfect substitutes
• Perfect complements

10. Value and Price
Value in use :
• It means utility of a commodity. In common language, a more “valuable”
good is that which has more utility or is more useful.
Value in exchange
• It means the value of a commodity is the amount of other goods and
services, which is obtained in exchange for it. For example if we get two
chairs for one radio, then, the two chair are the value of that radio.
Value is a relative term
• It changes with persons, places and time. One person may exchange a shirt
for two ties while some other may demand three.

11. Determinants of Value
It must have utility
• A good with greater utility will have higher exchange value.
It must be scarce
• Free goods have no value e.g. air. The scarce a good is, the higher will be its
value in exchange. Gold is found in small quantity than iron. Therefore,
value of gold is higher.
It must be transferable
• Which means transfer from one person to another. Suppose a person is
allotted a house by the government on the condition that he can live there
but cannot sell it; and neither can give on rent. The house then has utility
but no exchange value for that person.

12. Price: In modern world economic system we rarely exchange good
directly against goods
Income: Income is the amount or reward, which a person receives for his
personal services or the services of his property
• Earned income or labor income: money paid to the people for the work
• Unearned income: gained from owning assets or wealth
• Income and Transfer Payments: Income is the payment, which is received for
taking part in the production of goods and services. If a person receives some
payments without providing any productive service; in economics, it is not
called income but transfer payment
National Income: The aggregate annual income of all persons of a country is
called national income

13. Wealth
• Wealth means all those things, which are used by the people and are
not free
Characteristics of Wealth
• Utility: People try to get various goods only because they have utility.
A stray dog in a street is not wealth, but a watch dog in a house is
wealth since it has utility.
• Scarcity means that a good is not available in unlimited quantities. If a
good is not free, it is called scarce.
• Transferability only those goods are included in wealth which can be
transferred from one person to another or can be exchanged for
some other good.

14. Kinds of Wealth
Individual or Private wealth
• This includes all material things which a person possess e.g. land, jewelry, watch,
books etc.
Public or wealth
• These are the assets created for the benefit of the general public and are the
common property of the whole society e.g. government buildings, roads,
railways, public parks.
National Wealth
• These include natural resources which a country possesses e.g. rivers, forests,
mountains, etc. All goods counted as public wealth are also included in national
wealth.
International Wealth
• It includes all such goods or natural resources which jointly belong to all mankind
and which can be used by all countries e.g. air, oceans, higher space.

15. Law of Diminishing Marginal Utility
(DMU)
• “If other things do not change and a consumer increases the use of a
commodity, the utility of every new unit of the commodity will be less
than the utility of the previous unit”.
• Other things being equal, a successive increase in the stock of a
commodity with a consumer diminishes (decreases) its marginal
utility

16. Assumptions of the Law(DMU)
1. Nature of the commodity
• The commodity should not change. If all units of the commodity consumed are not of the same
quality, the law will not apply.
2. Suitable unit
• If the units of consumption are not of normal size, the law may not be prove true.
3. Continuous consumption
• If a person drinks, one glass of water in the morning. He takes another at noon. Because there is long interval
between drinking of two glasses of water, the utility of second may not be less than the first.
4. Taste and Attitude of the consumer remains the same
• If a person has eaten one mango. He wants to eat no more. Meanwhile a doctor tells him that mangoes are
useful for his health. This will increase the value of the mangoes for him. He may therefore get more utility
from second mango than from the first.
5. Income of the consumer does not change
• If a person purchases one electric fan. He thinks that a second one has less utility. MU of second will be
different if received in prize
6. Wealth and money
• Some people argue that since money can be used to purchase every good, marginal utility of money not fall.
Similarly, to a miser each addition in his wealth give more utility.

17. Limitations of the law of (DMU)
Knowledge
• If a person acquires more and more knowledge, his appetite for knowledge increases.
Utility of further study arise.
Drugs and narcotics
• If a person is addicted to smoking, drugs, the more he uses these, the greater urge he
feels. But we should remember that if he goes on using the commodity without any
break, his desire for more will diminish.
Rare articles, old coins (antiques)
• Someone feel that the people who are collecting rare articles of historical importance,
get increasing satisfaction with every addition to their collection.
Articles of fashion, information etc.
• If some articles are purchased just out of fashion or to show one’s wealth, information
the marginal utility may increase instead of decreasing. But in this case too, the law
applies provided we consider only one commodity. A person certainly loses interest in a
commodity if he gets more and more of it.

18. Practical Importance of the law of (DMU)
a) It explain why demand curve falls from left to right
When people get more quantity of a commodity, its marginal utility falls. It does
not appear to them as attractive as before.
b) It provides basis for progressive taxation
Progressive tax mean that rate of a tax is higher for higher income. When income of
a person increases MU of money falls.
c) It indicates the need for redistribution of wealth
The socialists advocate equal distribution of wealth on the ground that marginal
utility of money for the rich is lower than for the poor.
d) It explains how a consumer gets maximum utility
In order to get maximum possible utility out of his income, a consumer should
spend the amount in such a way that per AFN marginal utility of all commodities
purchased becomes equal.

19. Law of Equi-Marginal Utility
• Total utility from a given amount is maximum when it is spent on
various goods in such a way that the marginal utility of money spent
on each good becomes equal
• Another definition
“Total utility of a given amount of money is maximum when it is spent
on the principle of
MUA = MUB = ………………….. MUN
PA PB PN

20. Limitation of Equi-Marginal Utility
It is quite difficult to apply in practice problems due to the following reason.
The incomes of the consumers, prices of goods and tastes are always changing
• But human beings are not calculating machines who constantly make calculation.
Indivisible goods
• Many goods are not divisible into smaller units.
Custom and fashion
• Sometimes people purchase goods just out of fashion or custom.
Time problem
• Many goods last for very long periods. It is difficult to compare their utilities
Utility is not measurable
• This principle has very weak basis. Utility is not measurable. So it is difficult to
compare utilities to find maximum utility. It is not possible to add or subtract
utilities.

21. Practical Importance of the Law of (EMU)
Consumer behavior
• In spite of limitations, every consumer, consciously or unconsciously tries
to act according to this principle and spend his income in such a way that
total satisfaction is maximum.
Producer policy
• Every producer tries to use the most economical combination of factors.
The producer achieves this goal when he makes the marginal productivity
of factors equal. (Substitute more productive factors for less productive
factors).
Reward of factor of production
• Rent of land, interest of capital, wages of labor, all are determined
according to their marginal productivity.