CHAPTER-2

THEORY OF CONSUMER BEHAVIOUR

I Choose the correct answer

1. Utility is
a) Objective c) Both a and b
b) Subjective d) None of the above
Ans: (b) Subjective
2. The shape of an Indifference curve is normally
a) Convex to the origin c) Horizontal
b) Concave to the origin d) Vertical
Ans: (a) Convex to the origin
3. The consumption bundle that are available to the consumer depend on
a) Colour and shape c) Income and quality
b) Price and income d) None of the above
Ans: (b) Price and income
4. The equation of Budget line is
a) Px+p1x1=M c) P1x1+p2x2=M
b) M=P0X0+Px d) Y=Mx+C
Ans: c) P1x1+p2x2=M
5. The demand for these goods increases as income increases
a) Inferior goods c) Normal goods
b) Giffen goods d) None of the above
Ans: (c) Normal goods
6. A vertical demand curve is
a) Perfectly elastic c) Unitary elastic
b) Perfectly inelastic d) None of the above
Ans: (b) Perfectly inelastic
7. Ordinal utility analysis expresses utility in
a) Numbers c) Ranks
b) Returns d) awards
Ans: (c) Ranks

II Fill in the blanks

1. Wants satisfying capacity of commodity is ………….
Ans: Utility
2. Two indifference curves never ………………. each other.
Ans: Intersect
3. As income increases, the demand curve for normal goods shifts
towards…………….
Ans: Rightward
4. The demand for a good moves in the ………… direction of its price
Ans: Opposite
5. Method of adding two individual demand curve is called as…………….
Ans: Horizontal summation

III Match the following

A B
1. Demand curve a) D(p)=a-bp
2. Linear Demand curve b) Downward sloping
3. Unitary elasticity of demand c) Pen and ink
4. Complementary goods d) A family of Indifference curve
5. Indifference map e) |ed|=1

Ans:
A B
1. Demand curve b) Downward sloping
2. Linear Demand curve a) D(p) = a-bp
3. Unitary elasticity of demand e) |ed|=1
4. Complementary goods c) Pen and ink
5. Indifference map d) A family of Indifference curve

IV Answer the following questions in a sentence or a word:

1. What is budget line?
Ans: The line consisting of all bundles of the two goods which cost exactly equal to the
income of consumer is called budget line. It slopes negatively.
2. What do you mean cardinal utility analysis?
Ans: When the utility is measured in numbers like 1,2,3,4…., it is called as cardinal utility
analysis. It was advocated by Prof.Alfred Marshall.
3. Give the meaning of marginal utility.
Ans: It is the additional utility derived by the consumer by consuming additional unit of a
commodity.
MUn = TUn – TUn-1
4. What is utility?
Ans: Utility refers to the want-satisfying power of a commodity or a service.
5. Expand MRS.
Ans: Marginal Rate of Substitution.
6. What do you mean by indifference curve?
Ans: Indifference curve shows the different combinations of two products which give the
consumer same level of satisfaction.
7. What is demand?
Ans: The concept ‘demand’ refers to the quantity of a good or service that a consumer is
willing and able to purchase at various prices, during a period of time. It includes desire for
a commodity, ability to pay and willingness to pay.
V) Answer the following in 4 sentences:
8. What are the differences between budget line and budget set?
Ans:
Budget Line Budget Set

• The line consisting of all bundles of • It is a collection of all bundles

the two goods which cost exactly available to a consumer at the
equal to the income of consumer is existing prices of the goods at his
called budget line. given level of income.
• It is also known as Price line. • It is also known as opportunity set.

9. What do you mean by inferior goods? Give example.

Ans: The inferior goods are those goods for which the demand increases with the fall in
income of consumer and vice-versa. There will be a negative relationship between income
of consumer and demand for inferior goods. Here the income of consumer and demand
move in opposite directions.
Example: Low quality goods.
10. What is monotonic preference?
Ans: A consumer’s preferences are said to monotonic if and only if between any two
bundles, the consumer prefers the bundle which has more of at least one of the goods and
no less of the other good as compared to the other bundle.
For instance, the consumer, between any bundles say (x1,x2) and (y1, y2), if (x1,x2) has
more of at least one of the goods and no less of the other good compared to (y1, y2) then
the consumer prefers (x1,x2) to (y1, y2). This is called monotonic preferences.
11. State the law of demand?
Ans: The law can be explained in the following manner: “Other things remaining constant, a
fall in price leads to expansion in demand and a rise in price leads to contraction in demand”.
In other words, when price of the commodity increases, demand for it falls and when price
of the commodity decreases, demand for it rises, other factors remaining the constant.
12. Mention two different approaches which explain consumer behaviour.
Ans: The two approaches which explain consumer behaviour are:
a) Cardinal Utility Analysis – Law of Diminishing Marginal Utility
b) Ordinal Utility Analysis – Indifference Curve analysis
6. What do you mean by price elasticity of demand?
Ans: Price elasticity of demand is a measure of the responsiveness of the demand for a
good to changes in its price.
In the words of Prof. Stonier & Hague, “Price elasticity of demand is a technical term used
by economists to describe the degree of responsiveness of the demand for a good to a change
in its price.
It is measured by using the following formula:
PED = Percentage change in demand for the good Or
Percentage change in price of the good
 𝛥𝑞 𝑝
PED = ×
𝛥𝑝 𝑞

VI- Answer the following questions in 12 sentences:

1. Write the differences between total utility and marginal utility.
Ans:
Total Utility Marginal Utility

• It is the aggregate utility derived by • It is the additional utility derived by

the consumer by consuming all the the consumer by consuming additional unit.
units.
• It represents utility of all the units
• It represents the utility of single unit.
consumed.

• It may be symbolically written as • It may be written as

TUn=U1+U2+U3+U4………….Un.
MUn=TUn-TUn-1. Or
Or TUn= ∑MU
𝛥𝑇𝑈
MU =
𝛥𝑞

• It increases in the beginning and • It decreases from the beginning and

later decreases as the consumer becomes negative later.
consumes more and more units. • Suppose, the total utility derived from
• Suppose, a man consumes five units four units of bread is 56 units and total
of bread at a time. He derives 20 utility derived from 5 units of bread is 60
units of utility from 1st unit of units. Then, marginal utility (MU) from
bread, 16 from 2nd, 12 from third, 8 5th unit will be
from fourth and 4 from fifth, then 60 – 56 = 4 units.
TU = 60 units.

2. Briefly explain the budget set with the help of a diagram.

Ans: Budget set refers to all the attainable bundles of the two goods, with the given prices
of the two goods and the income of the consumer. The Budget set is also known as
opportunity set. It includes all the bundles (all possible combination of two goods) which
the consumer can purchase with his given level of income. The budget equation can be
written as follows:
P1X1 + P2 X2 ≤ M.
Consider, for example, a consumer who has Rs.20 and suppose, both the goods are
priced at Rs.5. The bundles that this consumer can afford to buy are;
(0,0), (0,1), (0,2), (0,3), (0,4),
(1,0), (1,1), (1,2), (1,3),
(2,0), (2,1), (2,2),
(3,0), (3,1) and
(4,0).
 Among these bundles, (0,4), (1,3), (2,0), (2,2), (3,1) and (4,0) cost exactly Rs.20 and all the
other bundles cost less than Rs.20.
If both the goods are perfectly divisible, the consumer’s budget set would consist of all
bundles (x1,x2) such that x1 and x2 are any numbers greater than or equal to 0 and
P1X1 + P2 X2 ≤ M.
The budget set can be represented in a diagram as follows:

M/P2

Mangoes
P1X1 + P2 X2 =M.

O X
Banana M/P1
Quantity of bananas is measured along the horizontal axis and quantity of mangoes is
measured along the vertical axis. Any point in the diagram represents a bundle of the two
goods. The budget set consists of all points on or below the straight line having the
equation P1X1 + P2 X2 =M.

3. Explain the derivation of slope of the budget line.

Ans: The slope of the budget line measures the quantity of change in one product required
per unit of change in another product along the budget line.
For example, the amount of change in mangoes required per unit of change in
bananas along the budget line is the derivation of slope of the budget line. It can be
represented in diagram as follows:
 O Banana M/P1 X

The absolute value of the slope of the budget line measures the rate at which the
consumer is able to substitute bananas for mangoes when she spends her entire budget.
Let us consider two points (x1,x2) and (x1 + ∆x1, x2+∆x2) on the budget line. It must be
the case that:

P1X1 + P2 X2 =M……………..(1)

P1 (X1 + ∆X1) + P2 ( X2+∆X2) = M …………(2)

Now subtracting (1) from (2), we get

P1∆X1+ P2∆X2=0…………….(3)
By rearranging terms in (3) we get
𝛥𝑥2 𝑝1
=−
𝛥𝑥1 𝑝2

𝑝1
Therefore, the slope of the budget line is - . The means, the budget line is negatively
𝑝2
sloped i.e., it slopes downwards. An increase in the number of bananas along the budget
line is associated with a decrease in the number of mangoes.

4. Explain the indifference map with the diagram.

Ans: A family of indifference curves is called as indifference map. It refers to a set of
indifference curves for two commodities showing different levels of satisfaction. The
higher indifference curves show higher level of satisfaction and lower indifference curve
represents lower satisfaction.
A rational consumer always chooses more of that product that offers him a higher level of
satisfaction which is represented in higher Indifference Curve. It is also called ‘Monotonic
preferences’. Monotonic preferences imply that between any two indifference curves, the
consumer prefers the bundle which lies above rather than the bundles which lies below.The
 consumer’s preferences over all the bundles can be represented by a family of indifference
curves as shown in the following diagram:

Mango

O Banana X Y
In the above diagram, we see the group of three indifference curves showing different
levels of satisfaction to the consumer. The arrow indicates that bundles on higher
indifference curves are preferred by the consumer to the bundles on lower indifference
curves.
5. Write the differences between substitutes and complements.
Ans:
Substitute goods Complementary goods
These are alternative goods available to These are the goods which are consumed
satisfy our wants. together.
If the price of a product increases, the If the price of a product increases, the
demand for its substitute also increases. demand for its complementary good
decreases.
Examples for substitute goods are tea and Examples for complementary goods are
coffee, butter and margarine, physical pen and ink, shoes and socks, smartphones
books and e-books, eyeglasses and contact and protective cases, table and chair, milk
lenses, laptop computers and desktop and coffee etc
computers... etc.
Here the demand curve shifts to the Here the demand curve shifts to left
right in case of price rise. in case of price rise.
Price of A
Price of A

O Demand for B O Demand for B

Price and demand move in the same Price and demand move in the opposite
direction. direction.
 6. Explain the differences between normal and inferior goods with examples.
Ans:
Normal goods Inferior goods
• These are the goods for which the • These are the goods for which the
demand increases with the increase in the demand decreases with the increase in the
income of consumer. income of consumer.
• Example for normal goods are food, • Example for inferior goods are low
cloths, electronic goods, luxury goods etc. quality of goods like unbranded products.
• There is positive relationship between • There is inverse relationship between
income and demand as shown in the diagram. income and demand as shown in the diagram.

Income
Income

O Demand O Demand

• It is more likely purchased by

middle to high-income • It is more likely purchased by
groups. lower-income groups
• The demand for a normal • The demand for a normal good
good shifts towards right as shifts towards left as the income
the income increases, price increases, price remaining
remaining constant. constant.

VII Answer the following questions in 20 sentences:

1. Explain the law of diminishing marginal utility with the help of a table and diagram.

Ans: Statement: According to this law, as a consumer consumes more and more units of the same
good continuously, without any time gap, the utility got from the additional units goes on
diminishing. German Economist Gossen was the first to explain it. Therefore, it is called Gossen’s
First Law.

This law simply tells us that, we obtain less and less utility from the successive units of a
commodity as we consume more and more of it.

Assumptions:

• Uniform quality and size of the commodity:

 • Suitable quantity of consumption: The commodity units should not be very small; Eg.
Milk should be in glasses and not in spoons.
• Consumption must be continuous.

• No change in the price of the commodity or its substitutes:

• Utility can be measured in cardinal numbers i.e., 1, 2, 3, 4, …….
• Consumer must be rational, i.e., every consumer wants to maximize his satisfaction.

Explanation of Law of Diminishing Marginal Utility: This can be explained with the help of
the following table. TU- Total Utility, U- Marginal Utility.
Units of Apples TU MU

1 30 30

2 50 20

3 65 15

4 75 10

5 80 5

6 82 2

7 82 0

8 80 -2

Suppose a man wants to consume apples and is hungry. In this condition, if he gets one apple, he
has very high utility for it, say 30 utils. Having eaten the first he will not remain so hungry as
before. Therefore, if he consumes the second apple he will have a lesser amount of utility from the
second apple even if it was exactly like first one. The utility he got from the second apple equals
20 units, the third, fourth, fifth and sixth apples give him utility equal to 15, 10, 5 and 2 units
respectively. Now, if he is given the seventh apple he has no use for it. That means the utility of
the seventh apple to the consumer is zero. It is just possible that if he is given the eight apple for
consumption, it may harm him. Here the utility will be negative ie., -2. Therefore, we are clear
that the additional utility of the successive apples to the consumer goes on diminishing as he
consumes more and more of it.
The Law of Diminishing Marginal Utility can be explained with the help of the following diagram:
 O

In the diagram the horizontal axis shows the units of apples and the vertical axis measures
the MU and TU obtained from the apple units. The total utility Curve will be increasing in the
beginning and later falls. The Marginal Utility curve is falling from left down to the right clearly
tells us that the satisfaction derived from the successive consumption of apples is falling.
The Marginal Utility of the first apple is known as initial utility. It is 30 utils. The Marginal
utility of the seventh apple is Zero. Therefore, this point is called the satiety point. The Marginal
Utility of the eighth apple is -2. So, it is called Negative utility and lies below the X axis.

2. Explain the features of Indifference curves with the help of diagrams.

Ans: The main features of Indifference curves are as follows:
a) Indifference curve slopes downwards from left to right: An indifference curve slopes
downwards from left to right because, the consumer in order to have more of one
product, he has to forego some units of other product to maintain the same level of
satisfaction. This can be explained with the help of diagram.
 O Bananas X

An increase in the number of bananas along the indifference curve is associated with a
decrease in the number of mangoes. Thus because of the negative relationship between
quantities of Mango and Banana, indifference curve is downward sloping from left to
right.
b) Higher indifference curve gives greater level of utility: As long as marginal utility of
a commodity is positive, a consumer always prefers more of that commodity to increase
his level of satisfaction (because of monotonic preference). This can be explained with
the help of table and a diagram:
Combination Banana Mango
A 1 10
B 2 10
C 3 10

Y
Mango

10 A B C
IC3

IC2
IC1
O X
1 2 3 Banana
Let us consider the different combinations of two goods bananas and mangoes A, B
and C in the above table and diagram. All the three combinations consist of same quantity
of mangoes but different quantities of bananas. As combination B has more bananas than
A, B will provide the consumer higher level of satisfaction than A. Therefore, B will lie on
 higher indifference curve. Similarly, C has more bananas than B and therefore C will
provide higher level of satisfaction than B and also lie on higher indifference curve than B.
Thus, higher indifference curves give greater level of utility.
c) Two indifference curves never intersect each other: If the two indifference curves
intersect each other, they will give conflicting results. This can be explained with the
help of diagram.

Mangoes

B IC2

C IC1
O X
Bananas
In the above diagram the two indifference curves have intersected with each other. As points
A and B lie on IC2, utilities derived from A and B are same.
Similarly, as points A and C lie on the same indifference curve IC1, the utilities are same. From
this, it follows that utility from point B and C are same. But this is clearly an absurd result as on B,
the consumer gets a greater number of mangoes with the same quantity of bananas. So the
consumer is better off at point B than at Point C. Thus, it is clear that intersecting indifference
curves will lead to conflicting results. Thus, two indifference curves cannot intersect each other.

3. Explain the optimal choice of consumer with the help of diagram.

Ans: It is assumed that the consumer chooses her consumption bundle on the basis of her
taste and preferences over the bundles in the budget set. She can compare any two bundles.
In other words, between any two bundles, she either prefers one to the other or she is
indifferent between the two goods.
It is further assumed that the consumer is a rational individual. A rational individual
clearly knows what is good or what is bad for her and in any given situation, she always
tries to achieve the best for herself. From the bundles which are available to her, a rational
consumer always chooses the one which gives her maximum satisfaction. According to
monotonic preferences, the consumer always tries to move to a point on the highest
possible indifference curve given her budget set.
Thus, the optimum point would be located on the budget line. A point below the
budget line cannot be the optimum. Compared to a point below the budget line, there is
always some point on the budget line which contains more of at least one of the goods and
no less of the other. Thus, the consumer’s preferences are monotonic. The point at which
the budget line is tangent to one of the indifference curves would be the optimum choice of
consumer. This is because, the budget line other than the point at which it touches the
indifference curves lies on a lower indifference curve is considered as inferior. So such a
point cannot be the consumer’s optimum. The optimum bundle is located on the budget line
at the point where the budget line is tangent to an indifference curve.
 This can be explained with the help of the following diagram.

O Banana Q X

In the above diagram, PQ is budget line, IC1, IC2 and IC3 are
indifference curves showing different levels of satisfaction. Banana is measured in OX axis
and Mango is measured in OY axis.
The above diagram illustrates the consumer’s optimal choice also known as consumer’s
equilibrium. At (x1,x2), the budget line PQ is tangent to the indifference curve IC2. The
indifference curve just touching the budget line is the highest possible indifference curve
given the consumer’s budget set. Bundles on the indifference curve above IC2 are not
affordable. Points on the indifference curve IC2 are certainly inferior to the points on the
IC2 as they lie on IC1.
Therefore, (x1,x2) is the consumer’s optimum bundle.

4. Explain the movement along the demand curve and shift in demand curve with the
help of two diagrams.
Ans: The quantity of a good demanded by the consumer changes with the rise and fall in the
price of the commodity if other determinants of demand remain constant. This alternation in
demand, when shown in the graph, is known as movement along a demand curve.
• There can be two types of movement in a demand curve: extension and contraction.
• When the price falls, the quantity demanded rises. With this change in demand, there is a
downward movement along the demand curve which is known as an extension of the demand
curve.
• Similarly, when the price of the good increases, the demand for the it falls. This time, there is an
upward movement along the demand curve, and this movement is known as a contraction in the
demand curve.
• On the other hand, except its own price, changes in any of the other things like, income of
consumer, price of related goods (substitutes and complementary goods), tastes and preferences,
change in population etc. lead to a shift in the demand curve.
• There can be two types of shifts in demand curve: Rightward or leftward.
• Shift in demand curve towards the right is called increase in demand and
• Shift in the demand curve towards left is called decrease in demand.
• The following two diagrams depict the movement along the demand curve and a shift in the
demand curve:
 (a) (b)

D D
1

Price
Price
D2

D D1
D2
O
Demand O Demand

The above diagrams show movement along a demand curve and shift of a demand curve.
Diagram (a) depicts a movement along the demand curve and diagram (b) depicts a shift in the demand
curve.
5. Explain the market demand with the help of diagrams.
Ans: Market Demand: The market demand for a good at a particular price is the total demand of all the
consumers taken together.
Market Demand Schedule: It is a table showing different quantities of a commodity that all the buyers
in the market are ready to buy at different possible prices of the commodity at a point of time.
Market Demand Curve: It is the summation of all the individual demand curves in a given market. It
shows the quantity demanded of the good by all individuals at various different prices. It is the graphic
presentation of the market demand schedule.
Let us assume that there are only two consumers in the market- Mike and Julia. The demand for a good
made by these two consumers in the market against different prices is shown in the below schedule. The
market demand is got by the horizontal summation method (d1 + d2 = dm).
The market demand curve is shown in the graph above.
Adding up two linear demand curves:
Consider a market, where there are two consumers and the demand equations of the two
consumers are given as:
d 1 (p) = 10- p and d 2 (p) = 5- p
The market demand d m (p) can be derived by adding these two equations as
d m (p) = d 1 (p) + d 2 (p) = (10 - p) + (15- p)
d m (p) = 25 - 2p

VIII Assignment and project- oriented question

1. A consumer wants to consume two goods. The price of bananas is Rs.5 and price of mangoes
is Rs.10. The consumer’s income is Rs.40.
a) How many bananas can she consume if she spends her entire income on that good?
b) How many mangoes can she consume if she spends her entire income on that good?
c) Is the slope of budget line downward or upward?
d) Are the bundles on the budget line equal to the consumers’ income or not?
e) If you want to have more of bananas, you have to give up mangoes. Is it

true?

Ans: (a) 8 Bananas (40/5)

(b) 4 Mangoes (40/10)

(c) Slope of budget line is downward.

(d) Yes, the bundles on the budget line are equal to the consumer’s income.
(e) True. If we want to have more of bananas, we have to give up mangoes.

******