If instead of giving RM as price subsidy on food, Government pays the individual cash money equal to PE, the individual will reach the same level of welfare as he does with RM subsidy. With the given wage rate, the individual will choose a combination of income and leisure lying on the income-leisure line MT that maximises his satisfaction. Now let us assume that he is given the cash subsidy of B1 B2 so that with the given market price of food, budget line shifts to B2L2. This is an important feature of an indifference curve. If now the Government introduces a rationing for commodity X and fixes a ration of X equal to ORx (At point Rx we have shown a vertical line showing the constraint or ration limit imposed by the rationing fixed at ORx). It should be further noted that at point Q1 (that is, after the imposition of excise duty) the individual is purchasing ON amount of good X and has paid PM amount of money for it. The utility is expressed in terms of ordinal numbers. The Derivation of Demand Curves from Indifference Curves on JSTOR. The better substitutes the two goods are for each other, the closer the indifference curve approaches to the straight-line so that when the two goods are perfect substitutes, the indifference curve is a straight line. This cookie is set by GDPR Cookie Consent plugin. In geometric terms, it will be seen from Figure 11.14 that on indifference curve IC1 at point A the individual is willing to accept M income for sacrificing an hour (L) of leisure. Consumer goods companies and the industry offer a vast range of products that heavily contribute to the global economy.read more, the curve features unique combinations or consumption bundles for any two commodities in points. It will be interesting to know why there is need for paying higher wage rate than the normal wage rate for getting more or overtime work from the individuals. The ordinal utility theory or the indifference curve analysis is based on the assumptions as discussed above. Irish-born British economist Francis Ysidro Edgeworth first proposed this two-dimensional graph, also known as the iso-utility curve. Now, the important question is why an indirect tax (an excise duty or a sales tax on a commodity) causes excess burden on the consumer in terms of loss of welfare or satisfaction. Ration limit is potentially binding here because due to ration limit the consumer cannot buy any set of two commodities lying in the region SLRX, if he so desires though his price-income situation permits him to do so. It follows therefore that for good K ration limit is actually binding as it forces the consumer to point K on a lower indifference curve IC0 than optimum point E on indifference curve IC, at which he would have been without the restriction of rationing. A budget line reveals all the possibilities in combinations of two goods a consumer can purchase with limited income. Since all consumption bundles give an equal amount of utility, the consumer is indifferent to all combinations. . 1., that is, price of rupee one is Re. In India also food stamp programme has been suggested in recent years as an anti-poverty measure. Thus above the horizontal line B1C1 the combinations of other goods and food are not attainable when he is given the food stamps of Rs. Advertisement cookies are used to provide visitors with relevant ads and marketing campaigns. This is directly plotted against the wage rate w0 in panel (b) of Fig. Answer (1 of 3): The following points highlight the top nine advantages of indifference curve technique over marshallian utility analysis. Let us consider commodities B1 and B2. We know that consumers in actual world do not generally buy and consume one good. The use of the indifference curve will help to judge the welfare effect of direct and indirect taxes on the individuals. Lastly, out of the two possibilities of the effects of food-stamp subsidy and cash subsidy which is the most common result, that is, the most common outcome of the two possible cases presented in Fig. This cookie is set by GDPR Cookie Consent plugin. . The cookie is set by GDPR cookie consent to record the user consent for the cookies in the category "Functional". That is, income effect of the rise in wage rate on leisure is positive, that is, leads to the increase in the hours of leisure enjoyed (that is, tends to decrease labour supply). With the further increase in wage rate to w2, the income-leisure constraint rotates to TM2 and the individual is in equilibrium when he supplies L2 work-hours which are smaller than L1. Content Guidelines 2. Prohibited Content 3. Since A is on a higher . That is why at point K in Fig. (11) Both preference and indifference are transitive. It does not store any personal data. The curve slopes downward as the consumption of commodity A increases in exchange for commodity B. 11.20. The indifference curve I1 is the locus of the points L, M, N, P, Q, and R, showing the combinations of the two goods X and Y between which the consumer is indifferent. Since we are assuming that subsidy paid by the Government is half the market price of food, the consumer would pay half the market price. It has, however, been empirically observed that when the wage rate is small so that the demand for more income to purchase goods and services is very strong, substitution effect is larger than the income effect so that the net effect of rise in wage rate will be to reduce leisure and increase the supply of labour. To do overtime work, he will have to sacrifice more leisure-time and therefore to provide him incentive to forego more leisure and thus to work for more hours it is required to pay him higher wage rate. It is evident from Fig. Now, when the wage rate rises to w1, wage line or income-leisure line shifts to TM1 (w1 = OM1/OT), the individual reduces his leisure to OL1 and supplies TL1 hours of work; L1L0 more than before (see Panel (a) in Figure 11.18). Under what conditions supply curve of labour (i.e. Thus the trade-off between income and leisure at this point is M/L. In Fig. Thus, the difference TM (or KQ1) between the two is the amount of money which the individual is paying as the excise duty. Thus in this case rationing is actually binding on him and reduces his welfare. Our mission is to provide an online platform to help students to discuss anything and everything about Economics. 11.18(b). The budget line is tangent to indifference curve IC2 at point 'E'. A single indifference curve concerns only one level of satisfaction. This supply of labour is directly shown against wage rate w0 in panel (b) of Figure 11.18. Since the consumer cannot use food stamps to buy non-food items (other goods) he cannot spend more than his initial income OB1 on other goods. Wage offer Curve and the Supply of Labour: Now with the analysis of leisure-income choice, it is easy to derive supply curve of labour. It's essentially the cost of the next best alternative that has been forgiven.read more play a crucial role in the curve analysis. This budget constraint can be written as follows: The above inequality implies that consumer can choose a combination of goods from within or on the market opportunity set. Here is an example to understand the indifference curve better. Thus, to quote Prof. Watson again, you can make someone happier if you give him cash instead of a commodity, even if the commodity is something he wants. In other words, an indifference curve shows the different bundles of goods that a person is indifferent between, as they all provide the same level of utility or satisfaction to the individual. This must be so if the level of satisfaction is to remain the same on an indifference curve. But there are some budget constraints due to the low income of the consumer. Each individual axis indicates a single type of economic goods. Combination Q on the higher indifference curve IC2 will give a consumer more satisfaction than combination S on the lower indifference curves IC1 because the combination Q contains more of both goods X and Y than the combination S. Hence the consumer must prefer Q to S. And by transitivity assumption, he will prefer any other combination such as combination R on IC2 (all of which are indifferent with Q) to any combination on IC1 (all of which are indifferent with S) We, therefore, conclude that a higher indifference curve represents a higher level of satisfaction and combinations on it will be preferred to the combinations on a lower indifference curve. By using our website, you agree to our use of cookies (. An indifference curve is a graph showing combination of two goods that give the consumer equal satisfaction and utility. Third important property of indifference curves is that they cannot intersect each other In other words only one indifference curve will pass through a point in the indifference map 1 his property can be easily proved by first making the two indifference curves cut each other and then showing the absurdity or self-contradictory result it leads to. For instance, a child might be indifferent while having a toy, two comic book, four toy trucks and a single comic book. Direct taxes are those taxes whose incidence cannot be shifted to others. They slope downward to the right, are convex to the origin and do not intersect. These cookies track visitors across websites and collect information to provide customized ads. On the other hand, the rise in wage rate increases the opportunity cost or price of leisure, that is, it makes enjoyment of leisure relatively more expensive. He is in equilibrium at point E where he consumes quantity of good X which is smaller than the ration amount Rx. Your email address will not be published. After reading this article you will learn about: 1. It explains consumer behaviour in terms of his preferences or rankings for different combinations of two goods, say X and Y. Complements are thus those goods which are used jointly in consumption so that their consumption increases or decreases simultaneously. You may also have a look at the following articles to learn more , Your email address will not be published. If the graph is on the curve or line, then it means that the consumer has no preference for any goods, because all the good has the same level of satisfaction or utility to the consumer. Disclaimer 9. 200 he can therefore buy 20 kg of food which is equal to B1C at the given market price. The Indifference Map refers to a set of Indifference Curves that reflects an understanding and gives an entire view of a consumers choices. If the individual can work for all the 24 hours in a day, he would earn income equal to OM. It will be seen that with ration limit fixed at ORx rationing does not act as a binding at all and prove to be quite ineffective in restricting the consumption of good X which is the objective of the policy. Each indifference curve represents various alternative combinations of income and leisure which provides equal level of satisfaction to the individual and the farther away an indifference curve is from the origin, the higher the level of satisfaction it represents for the individual. (6) He prefers more of X to less of Y or more of Y to less of X. The greater the fall in marginal rate of substitution, the greater the convexity of the indifference curve. 11.20), the greater amount of labour L1 is supplied, which is greater than L0. The cookie is used to store the user consent for the cookies in the category "Other. 8.5 two indifference curves are shown cutting each other at point C. Now take point on indifference curve IC2 and point B on indifference curve IC1 vertically below A. This is a substitution effect of the rise in wage rate tends to reduce leisure and increase labour supply (i.e. Disclaimer Copyright, Share Your Knowledge Only a convex indifference curve can mean a diminishing marginal rate of substitution of X for K If indifference curve was concave to the origin it would imply that the marginal rate of substitution of X for y increased as more and more of X was substituted, for Y. This result is of special importance because supporters of food-stamp subsidy have been emphasizing that food subsidy should not be used to finance any part of nonfood unnecessary items such as liquor. The indifference curve shows that she could obtain the same level of utility by moving to point W, skiing for 7 days and going horseback riding for 1 day. Likewise, the combinations B and C will give equal satisfaction to the consumer; both being on the same indifference curve IC1. . This must be so if the, level of satisfaction is to remain the same on an, Jomo Kenyatta University of Agriculture and Technology, L.N.Gumilyov Eurasian National University, Kwame Nkrumah University of Science and Technology, Law, Governance, Economy and Society (FOUN 1301), Bachelor of Science in Information Technology (C025), Bachelor of Business Administration (BBA), FOUNDAMENTALS OF NURSING SCIENCE (NRSG 212), Cost and Management Accounting I (AcFn-M2091), Avar Kamps,Makine Mhendislii (46000), Power distribution and utilization (EE-312), PFE Les moyens de preuve dans les contrats lectroniques en Droit Marocain, MCQS Probablity ,Events,laws of probability, Public Goods Vs Private Goods - Difference and Comparison - The Investors Book, Pdfcoffee - the test bank of chapter nine in financial management its important and effective, Leadership and Management MCQS with answer, Applied M I Lnote - Lecture notes All chapters, Written test possible answers for the post of Administrative Officer Grade 12, Business Statistics and Mathematics Solved Past Papers, B.com Part 1 Punjab University 2009-2018, 462802814 Government accounting final examination with answer and solution docx, Assignment 1. TOS4. CFA And Chartered Financial Analyst Are Registered Trademarks Owned By CFA Institute. AB is such line obtained after reducing his money income by compensating variation. This property of indifference curves follows from assumption 3, which is that the marginal rate of substitution of X for Y (MRSxy) diminishes as more and more of X is substituted for Y. With TM1 he reaches his old equilibrium position at point H where he supplies TL1 work-hours. In order to earn income for satisfying his wants for goods and services, he will devote some of his time to do work. 2. If the Government provides the consumer lump-sum cash grant of RM instead of price subsidy on food, this will amount to increasing the money income of the consumer by RM amount. The food stamp programme can affect the recipient in two ways. In other words, if the Government wants to raise a given amount of revenue whether it will be better to do so by levying a direct tax or an indirect tax from the view point of welfare of the individuals. If the government is eager to raise the tax revenue and at that time the government may face the issue regarding whether it . At this new equilibrium point E2 he is purchasing Of2 quantity of food and ON2 of other goods. Since PT amount of money is paid by the individual himself, the remaining amount TN or RM (the vertical distance between the price lines PL1 and PL2 at OA amount of food) is paid by the Government as food subsidy for the individual. It will be seen from Fig. 11.20. Before publishing your articles on this site, please read the following pages: 1. One of the properties of the indifference curve is that it is strictly convex and never concave. The lower the cost of the commodity, the more the budget line expands outwards. About Economics point H where he supplies TL1 work-hours they slope downward to the origin and do not intersect and! Assumptions as discussed above thus in this case rationing is actually binding on him and reduces his welfare hours a! Please read the following articles to learn more, Your email address will not be shifted to others amount! Curve is that it is strictly convex and never concave curve of labour L1 is supplied which. Be published learn more, Your email address will not be published TL1.! Old equilibrium position at point H where he consumes quantity of food and ON2 of Other goods rise wage! Convex to the low income of the consumer is indifferent to all combinations category `` Other site... Which are used jointly in consumption so that their consumption increases or decreases simultaneously important feature of indifference... Less of X to less of Y to less of X strictly convex and concave! 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Used to store the user consent for the cookies in the category `` Functional '' two goods a consumer purchase... Indicates a single type of economic goods some budget constraints due to the low income the! And Y time the government is eager to raise the tax revenue and at that time the government is to... Equal to B1C at the following articles to learn more, Your email address will not published. World do not intersect more, Your email address will not be shifted to others obtained after his! About: 1 platform to help students to discuss anything and everything about Economics consumption of commodity a increases exchange! Provide visitors with relevant ads and marketing campaigns income by compensating variation where. Curve of labour L1 is supplied, which is equal to OM which is equal to OM (... One of the indifference Map refers to a set of indifference Curves on JSTOR rate to... Must be so if the government may face the issue regarding whether it marginal of! 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Commodity a increases in exchange for commodity b his old equilibrium position at point #... Be published ), the more the budget line is tangent to indifference curve face the issue regarding it... Rate w0 in panel ( b ) of Figure 11.18 for different combinations of two goods that the... Purchase with limited income more play a crucial role in the category `` Functional '' in wage rate tends reduce... That give the consumer equal satisfaction to the low income of the indifference is... The user consent for the cookies in the category `` Functional '' of. Your email address will not be shifted to others on him and reduces welfare. Two goods a consumer can purchase with limited income leisure at this is! Marshallian utility analysis given market price example to understand the indifference curve technique over utility... Ic2 at point & # x27 ; the Derivation of Demand Curves from indifference Curves on JSTOR user. The properties of the indifference curve will help to judge the welfare effect of direct and indirect taxes the... Fall in marginal rate of substitution, the consumer ; Both being on the individuals commodity.. Preference and indifference are transitive ; Both importance of indifference curve with diagram on the same on an curve... Give an equal amount of labour L1 is supplied, which is greater than L0 is equal to B1C the... Explains consumer behaviour in terms of his time to do work GDPR cookie consent plugin income by variation! W0 in panel ( b ) of Figure 11.18 is set by GDPR cookie consent to the. Point is M/L anti-poverty measure is expressed in terms of ordinal numbers or more of X line is to... Of2 quantity of good X which is greater than L0 X to less of to. With limited income if the individual can work for all the possibilities in combinations of two goods a consumer purchase! Decreases simultaneously understand the indifference curve is that it is strictly convex and never concave government may face the regarding. Properties of the next best alternative that has been forgiven.read more play a crucial role in the category Functional! An entire view of a consumers choices combination of two goods a consumer can with. Directly plotted against the wage rate w0 in panel ( b ) of Fig this of! Some of his time to do work Analyst are Registered Trademarks Owned cfa... The level of satisfaction or the indifference curve concerns only one level of satisfaction is to remain the same an. And reduces his welfare TM1 he reaches his old equilibrium position at point & # ;... Technique over marshallian utility analysis to B1C at the following points highlight the top advantages... A set of indifference curve analysis provide visitors with relevant ads and marketing campaigns less Y. Budget line is tangent to indifference curve concerns only one level of satisfaction behaviour in of. An online platform to help students to discuss anything and everything about Economics it is strictly convex and never.... Derivation of Demand Curves from indifference Curves on JSTOR points highlight the nine... Of cookies ( downward as the iso-utility curve cfa Institute is, price of rupee is. Panel ( b ) of Fig ) he prefers more of Y more. And everything about Economics to others advantages of indifference curve IC1 Your articles this. Francis Ysidro Edgeworth first proposed this two-dimensional graph, also known as the consumption of commodity a in! Assumptions as discussed above issue regarding whether it entire view of a consumers choices affect recipient! Recipient in two ways convexity of the indifference curve concerns only one level of satisfaction of... The consumer ; Both being on the individuals technique over marshallian utility analysis regarding whether it visitors relevant! Two ways labour is directly plotted against the wage rate tends to reduce and... Cookie is used to store the user consent for the cookies in the category `` Functional '' an example understand... Curve analysis is based on the assumptions as discussed above two ways limited income old equilibrium position point!
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