A consumer consumes only two goods. explain his equilibrium with the help of utility approach. (6 marks)?

Question

Answer

Equilibrium of Consumer with the Help of Utility Approach

The consumer equilibrium is a situation where the consumer maximizes his satisfaction (utility) subject to his budget constraint. In other words, the consumer is in equilibrium when he has allocated his income in such a way that he gets the maximum satisfaction.

Assumptions

The consumer consumes only two goods X and Y

The consumer has a fixed income

The prices of goods X and Y are fixed

The consumer's taste and preferences do not change

The consumer is rational and aims to maximize his satisfaction (utility)

Utility Function

The consumer's satisfaction or utility depends on the quantity of goods X and Y consumed. Suppose the consumer's utility function is given by:

U = f(X,Y)

Consumer's Budget Constraint

The consumer's budget constraint is given by:

P_XX + P_YY = M

where P_X and P_Y are the prices of goods X and Y respectively, M is the consumer's income, X and Y are the quantities of goods X and Y consumed.

Consumer's Equilibrium Condition

The consumer is in equilibrium when he has allocated his income in such a way that the marginal utility per rupee spent on each good is equal.

That is,

MU_X/P_X = MU_Y/P_Y

where MU_X and MU_Y are the marginal utilities of goods X and Y respectively.

Explanation of Equilibrium

Suppose the consumer is initially consuming a combination of goods X and Y such that the marginal utility per rupee spent on good X is greater than the marginal utility per rupee spent on good Y. In other words,

MU_X/P_X > MU_Y/P_Y

In this situation, the consumer can increase his satisfaction (utility) by reducing the consumption of good X and increasing the consumption of good Y. This will lead to a decrease in the marginal utility per rupee spent on good X and an increase in the marginal utility per rupee spent on good Y.

The consumer will continue to reallocate his consumption until the marginal utility per rupee spent on each good is equal. This is the consumer's equilibrium position.

Answer

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