SIIB-IB Batch 2015-17Semester-I

Subject: Economics for ManagerDIV B

Submitted By:Nikhil Chowdhary (15020241079)Nikin Shajahan (15020241080)SomanjaliSuraj Raje (15020241117)Yash LakraDhaval Oza (15020241146)

Topic: REVEALED PREFERANCE THEORY

Date: September 12,2015

Utility

• An economic term referring to the total satisfaction received from consuming a good or service

• is a measure of preferences over a set of goods and services

• it represents satisfaction

Utility (contd…)

• Example• Car A and Car B• A – lane detection and anti theft alarm• A costs Rs 10,000 more

• Total and Marginal Utility

Cardinal Utility Concept• Cardinal = Measurable• Units – utils

• Assumptions1. The Cardinal Measurability of Utility2. The Hypothesis of Independent

Utilities3. Constancy of the Marginal Utility of

Money4. Introspective Method

Law of Diminishing Marginal Utility

• “The additional benefit which a person derives from a given increase of his stock of a thing diminishes with every increase in stock that he already has”

• Significance• the quantity demanded of a good

increase as it• the demand curve slopes downward

Law of Equi-Marginal Utility• “the consumer will distribute his money

income between the goods in such a way that the utility derived from the last rupee spent on each good is equal”

ORDINAL APPROACH• Consumer keeps number of pair of commodity in his

mind which gives him equal satisfaction.• Measured: qualitatively – rank wiseINDIFFERENCE CURVE• All possible combination of two goods, which give

same level of satisfactionASSUMPTION• Scale of preference• Consumer’s preference-transitivity• Rationality• Diminishing marginal rate of substitution• Concept of ordinal utility

INDIFFERENCE CURVE

Indifference map

BUDGET LINE• Represent the various combination of two goods, which

can be purchased with a given amount of money and given price unit.

Change in budget line• Change in incomeIncrease in Income :BL shift to rightDecrease in income: BL shift to left • Change in price of goods

EFFECT • Income effect

• Price effect

• Substitution effects

WARP: Weak Axiom Revealed Preference

Assumptions for WARP:

• People always opt for what they prefer.

• At any circumstances, preferences of consumer are consistent

• A single observed choice reveals a stable preference.

• Single value demand function is taken into consideration

Background

Scenario 1 Scenario 2

Consumer consumes (X1, Y1) when (X2, Y2) was affordable and (X2, Y2) when (X1, Y1) was not affordable.

WARP Theorem

Scenario 1

WARP Theorem:If (X1, Y1) is directly preferred to (X2, Y2) then it has to be an unlike scenario that (X2, Y2) is directly preferred to (X1, Y1)

This scenario creates ambiguity because consumer does not act as a maximum utilizing consumer as he chooses (X1, Y1) in some cases and (X2, Y2) in some scenario.

Other Concepts

• Sen’s α (Independence of Irrelevant alternatives)

• Sen’s β (Expansion Consistency)

• For any nonempty set, following statements are equivalent: Set satisfies Sen’s α and Sen’s β Set satisfies WARP Set considered is rational

• The entire idea of revealed preference is simply by using the weak notion of “choosing what you prefer,” you get strong rationality properties, including:

Weakly downward sloping demand curves. Only relative prices matter

Examples & Application of the Theories • Why this theories comes to the existence?

• Example & Application of Cardinal Utility

• Need of the Oridinal Utility.

• Example & Application of the Ordinal Utility.

• Application Reveled Preference Theory