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Difficulty: EasyConsumer Equilibrium under Ordinal Utility

In ordinal utility theory, a consumer maximizes satisfaction within a given budget at the point of tangency between the indifference curve and the budget line. At this equilibrium position, the Marginal Rate of Substitution of Good XX for Good YY (MRSxyMRS_{xy}) is equal to which of the following?

  1. The price ratio of the two commodities, PxPy\frac{P_x}{P_y}Answer
  2. B
    The inverse price ratio of the two commodities, PyPx\frac{P_y}{P_x}
  3. C
    The point where total utility derived from both goods reaches zero
  4. D
    A constant slope along the entire length of the indifference curve

Answer

The price ratio of the two commodities, PxPy\frac{P_x}{P_y}
Under ordinal utility analysis using indifference curves, consumer equilibrium is achieved at the tangency point between the budget line and the highest attainable indifference curve. At this tangency point, the slope of the indifference curve (MRSxyMRS_{xy}) equals the slope of the budget line (PxPy\frac{P_x}{P_y}).

Step-by-Step Solution

1
Identify the slope of the indifference curve
The slope of the indifference curve represents the Marginal Rate of Substitution (MRSxy=−ΔYΔXMRS_{xy} = -\frac{\Delta Y}{\Delta X}).
It measures the rate at which a consumer is willing to substitute Good YY for Good XX while maintaining the same level of utility.
2
Identify the slope of the budget line
The slope of the budget line is given by the relative price ratio of the two goods (−PxPy-\frac{P_x}{P_y}).
It represents the rate at which the market allows the consumer to trade Good XX for Good YY given their prices.
3
Equate the slopes to find the consumer equilibrium condition
MRSxy=PxPyMRS_{xy} = \frac{P_x}{P_y}
Equilibrium occurs at the point of tangency where the rate at which the consumer is willing to substitute goods equals the market rate of substitution.

Key Concept

Consumer Equilibrium Condition in Ordinal Utility Analysis
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Topics

Consumer Equilibrium under Ordinal Utility

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