| 9 |possibilites, preferences, |
| |and choices |
Answers to the Review Quizzes
1. What does a household’s budget line show? The budget line plots combinations of goods that require all a household’s income and describes the limits to its consumption choices.
2. How does the relative price and a household’s real income influence its budget line? The magnitude of the slope of the budget line equals the relative price of the good or service measured on the horizontal axis. A fall in the price of the good measured on the horizontal (vertical) axis decreases that good’s…show more content… Since the consumer is indifferent among all points on an indifference curve, when moving along it any increase in satisfaction from gaining one good must be matched by an equal decrease in satisfaction from a loss in the other good. An indifference curve is bowed toward the origin because the more of good x that is consumed the less you are willing to give up of good y to get more of good x and remain indifferent.
3. What do we call the magnitude of the slope of an indifference curve? The magnitude of the slope of an indifference curve is called the marginal rate of substitution (MRS). The MRS measures the rate at which the consumer gives up one good to get more of another good, while remaining on the same indifference curve (keeping the consumer indifferent about the changes). The ratio of the quantity of one good needed to replace the quantity of the other good and remain indifferent is the slope of the indifference curve. The bowed-in shape of the indifference curve is due to the assumption of diminishing MRS.
4. What is the key assumption about a consumer’s marginal rate of substitution? The key assumption about the marginal rate of substitution is that it is diminishing as a consumer moves down an indifference curve, creating the bowed-in shape.
1. When a consumer chooses the combination of goods and services to buy, what is she or he trying to achieve? The consumer is trying to achieve the