Theory of Consumer Behaviour Important Questions for Class 12 Economics Budget Set , Budget Line and Consumer Equilibrium through Indifference Curve Analysis or Ordinal Approach
1.Consumer’s Budget It is the real purchasing power of consumer from which he can purchase the certain quantitative bundles of two goods at a given price.
2.Budget Set It refers to the set of all possible combinations of two goods which a consumer can afford at given income and prices in the market.
Equation of budget set: M > PXQX + Py.Qy
3.Budget Line or Price Line This line is showing different combinations of two goods which a consumer can attain at given income and market price of the goods.
Equation of Budget Line, M = Px Qx + Py Qy Where, M = Market
Px = Price of Good x, Py = Price of Good y
Qx = Quantity of Good y, Qy = Quantity of Good y
4.Slope of Budget Line It shows the rate at which market price allows the consumer to substitute good x for good It is expressed as PxIPy also known as market rate of exchange.
5Consumer’s Equilibrium It refers to optimum choice of the consumer. In terms of indifference curve analysis, the consumer achieves his optimum choice when he strikes a balance between what he wishes to buy and what he can buy. i.e. a state of maximum satisfaction given his money income.
6.Conditions of Consumer’s Equilibrium
(ii) At the point of equilibrium, indifference curve must be convex to the origin.
Previous Years Examination Questions
1 Mark Questions
1.Define budget set.(Delhi 2014,2011)
Ans. Budget set refers to the set of all possible combinations of two goods which a consumer can afford, at his given
income and prices in the market
e.g Px.Qx+PY.Qy<M
2.Define budget line. (Delhi 2014; All India 2011,2010)
Ans. Budget line is a line showing different combinations of two goods which a consumer can attain, at his given income and market price of the goods,
e.g Px.Qx + PY.Qy=M
3 Marks Question
3.Define a budget line. Why is it negatively sloped? (All India 2013)
or
What is a budget line? Why is it downward sloping? (Delhi 2013)
Ans. Budget line is a line showing different combinations of two goods which a consumer can attain, at his given income and market price of the goods,
e.g Px.Qx + PY.Qy=M
It is negatively sloped because consumption of one commodity is associated with the sacrifice of another commodity, i.e. in order to increase consumption of good 1, some units of good 2 has to be sacrificed to be on the same indifference curve.
4 Marks Questions
4.Define a budget line. When can it shift to the right?(All India 2012)
Ans. Budget line is a line showing different combinations of two goods which a consumer can attain, at his given income and market price of the goods,
e.g Px.Qx + PY.Qy=M
It can shift to the right due to following reasons:
(i) When the level of income increases.
(ii) When price of both goods falls
5.What is budget set? Explain what can lead to change in budget set. (All India 2012)
Ans. Budget set refers to the set of all possible combinations of two goods which a consumer can afford, at his given income and prices in the market
e.g Px.Qx+PY.Qy<M
(i) When the level of income changes With the increase or decrease in the income of the consumer, new combinations of a set of two goods will be attained.
(ii) When price of one good changes If the price of one good changes, the consumer can increase or decrease the consumption of other good depending on the nature of changes.
(iii) When price of both goods changes If the price of both goods changes, the consumer can increase or decrease the consumption of both the goods and new combinations of a set of two goods will be attained.
Note A budget line is constructed on the basis of the consumer’s income, price of one good and price of another good. Therefore, if any one of these determinants changes, the budget line changes.
6 Marks Questions
6.Explain the three properties of indifference curve. (Delhi 2014)
Ans. Indifference curve is a curve showing different combinations of two goods, each combination
offering the same level of satisfaction to the consumer.
Properties of indifference curves are:
(i) Indifference curves are negatively sloped It shows that more of one commodity implies less of the other, so that total satisfaction remains the same.
(ii) Indifference curves are convex to the point of origin An indifference curve will ordinarily be convex to the point of origin. This is because of diminishing Marginal Rate of Substitution.
(iii) Indifference curve touches neither X-axis Nor Y-axis It is often assumed that a consumer buys a combination of two goods. Hence, an indifference curve touches neither X-axis nor Y-axis.
7.Explain the conditions of consumer’s equilibrium under indifference curve approach.
(All India 2014C, 2013)
or
A consumer consumes only two goods. Explain the conditions of consumer’s equilibrium with the help of indifference curve analysis. (Foreign 2014; All India 2010)
or
Explain the conditions of consumer’s equilibrium with the help of indifference curve analysis. (All India 2011; Delhi 2011c, 2010)
Ans. According to indifference curve analysis, consumer’s equilibrium is at a point where the slope of , indifference curve is equal to the slope of budget line or price line.
Two conditions of the consumer’s equilibrium are.
(ii) At the point of equilibrium, indifference curve must be convex to the origin. It implies that at the point of equilibrium, MRS must be diminishing.
P is the equilibrium point at which budget line touches the higher Indifference Curve IC2 within the consumer budget and /C3 is not affordable curve as his income does not permit, Point A could not be the point of equilibrium because at point A, MRS> Px/Py hence consumer will prefer to consume more of good X and less of good Y, as a result MUX will fall and MUy, will rise, this process will continue till the time MRS = PX/Py.
At point B, MRS <PX/Pyf hence consumer will demand more of good Yand less of good X, MUy will and MUX will rise till the time MRS = Px/Py.
8.Explain the concepts of
(i) Marginal Rate of Substitution(MRS)
(ii)Budget line,with the help of numerical examples (All India 2011)
Ans. (i) Marginal Rate of Substitution refers to the rate at which the consumer is willing to substitute one good to obtain one more unit of the other good. Symbolically,
Example Equilibrium is struck at point Q. At the point of equilibrium, price line and indifference curve are tangent to each other implying that the slope of price line
If a consumer wants to have more of X, it reduces the MU of X. Therefore, he will be willing to sacrifice less unit of Y. As he goes on obtaining more and more of X, MU of X starts declining so he will sacrifice less and less of good Y.
(ii) Budget line refers to the bundle of two goods which costs exactly equal to consumer income. The budget line is drawn on the assumptions that price of Good-1 is ? 2 per unit, price of Good-2 is ? 1 per unit and the consumer has ? 60 to spend. Accordingly, maximum 30 units of Good-1 are purchased, when entire budget is spent on Good-1 and maximum 60 units of Good-2 can be purchased, when entire budget is spent on Good
9.What are the conditions of consumer’s equilibrium under the indifference curve approach? What changes will take place if the conditions are not fulfilled to reach the equilibrium? (hots; All India 2010)
Ans. Conditions of consumer’ equilibrium
According to indifference curve analysis, consumer’s equilibrium is at a point where the slope of , indifference curve is equal to the slope of budget line or price line.
Two conditions of the consumer’s equilibrium are.
(ii) At the point of equilibrium, indifference curve must be convex to the origin. It implies that at the point of equilibrium, MRS must be diminishing.
P is the equilibrium point at which budget line touches the higher Indifference Curve IC2 within the consumer budget and /C3 is not affordable curve as his income does not permit, Point A could not be the point of equilibrium because at point A, MRS> Px/Py hence consumer will prefer to consume more of good X and less of good Y, as a result MUX will fall and MUy, will rise, this process will continue till the time MRS = PX/Py.
At point B, MRS <PX/Pyf hence consumer will demand more of good Yand less of good X, MUy will and MUX will rise till the time MRS = Px/Py.
If the conditions are not fulfilled, following changes will take place:
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