The Theory of Consumer Choice/Behavior Essay

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The Theory of Consumer Choice/Behavior

Introduction to Consumer Choice

Since consumers’ wants are unlimited, and the resources available to satisfy them are limited, consumers constantly make choice between alternative wants. The society has to make a choice about the uses to which to commit the limited resources at its disposal, since the scarce means cannot satisfy all wants at the same time.

If every human action were perfectly rational, everyone would satisfy his more pressing wants first. One can then go without those things which are considered less desirable. Choice therefore involves the selection of the most pressing wants out of a range of alternatives. The need to make choice reflects the alternative uses of resources.

The assumption that human beings are perfectly rational is not realistic. People sometimes give way to impulse and make choices which they later regret. However, the economist is not concerned with the morality or otherwise of the choice made. The moral aspect of choice, that is, whether the choice made is right or wrong, is the concern of ethics (the science of morals). An alcohol that, for instance, prefers to satisfy his urge for drinking rather than to buy food is not condemned by the economist.

The decision to have one thing instead of the other implies choice. Such economic decisions are made by individuals, firms and the government. An individual is faced with many problems of choice. They include: what proportion of income to spend and how much to save; how much to spend on various items such as food, clothing, rent, entertainment et cetera; what type of job to do; how much time to spend on work and leisure. Choice has to be made because of scarcity of resources. With its limited capital, a firm could choose between the production of shoes or clothing.

The government also makes choice and has to decide on what to do with the available human resources, land, and capital within the country. There are also such problems as what goods and services to provide for the people with the limited revenue derived from the tax payers and from other sources, whether to provide more educational facilities, build more rods, upgrade the existing ones, spend more money on defense, et cetera. The government has limited means at its disposal to execute all these projects. Therefore those that are considered most urgent have to be chosen using scale of preference (Anyanwuocha, 2001, pp179-180).

The theory of consumer choice as a study in microeconomics weighs the desire or demand of consumer curves amidst preferences. The basis of consumer theory is rooted in the need to understand the pattern of change a consumer exercises in demand within the limit of his optimization. The measure employed to understand the quantity of goods demanded are the unit price of the good and the consumer variable or fixed income. A change in price of a commodity is expected to effect a change in the quantity demanded of such commodity in a way that could be explained further under two effects viz. the substitution effect, and the income effect. It is important to briefly go through a model setup as the basis for consumer choice theory; the indifference curve.

The Indifference Curve and Consumer Choice/ Behaviour

Here, it is assumed that the consumer consumes a combination of two commodities only. The indifference theory is interested in investigating different combinations of two commodities which will leave the total utility of a consumer unchanged. Let us consider a consumer who consumes two commodities – Soft drink and Milk. The indifference theory is interested in finding out the quantity of milk which must be given up by this consumer to compensate for his increased consumption of soft drink.

That is, by how much must the consumption of the milk be reduced so as to leave total utility unchanged when more soft drink is consumed (indifference)? Let us assume that in a month a consumer takes 8 bottles of soft drink and 54 Tins of milk. There are other combinations (or bundles) of soft drink and milk which will all give the same amount of satisfaction (total utility) to the consumer. The consumer will therefore be ‘indifferent’ as to the combination of these two goods he consumes, since he will derive equal amounts of satisfaction. Let us represent combinations in a table (John 1939, 2nd ed. 1946);

Table 1.10 Combination of Soft drink and Milk that give Equal Satisfaction to a Consumer-       Mr. John

Combination Soft drink (Bottles) Milk (tins)
A 8 54
B 10 45
C 13 35
D 15 32
E 20 24
F 25 20
G 30 16

If all these combinations are plotted on a graph the resulting curve combinations is called an indifference curve. It is a diagrammatic representation of the different combinations of two commodities, which will leave total utility unchanged.

Y

30                                    G

25                                       F                                      Fig. 1.10 The indifference curve, I

20                                           E

15                                                  D

10                                                          C

                                                                          B

5                                                                                          A

      0                               20        30           40          50         60       70        80        X

                                    X = Quantity of milk demanded per month

                                    Y= Quantity of soft drink demanded per month

Substitution Effect of Theory of Consumer Choice

This observation is elicited when there is a change in relative pricing of goods. The indifference curve produced during substitution effect is a tool to predict the outcome of changes made in due t budget constraint. For example; in the graph below there is a demonstration of price effect on increase in price for commodity Y. Due to increase in price Y ,  the constraint in the budget for Y will swift from Bb to Ba (Fig. 1.11).

Note that the price of X is constant and this make the consumer qualified to purchase still the same quantity of X if his choice is limited to purchasing X. Conversely, if the consumer choice is bent on purchasing commodity Y, the consumer will only has a reduced purchasing power of commodity Y due to the increase in price effect of Y. This exemplifies how substitution effect affects the demand for good Y, thereby affecting the choice of the consumer.

Comm.  X     Ia       Ib        Ic

                                                           Fig 1.11

            Xa

            Xb

            Xc

                               Ya            Yb             Yc

                                               Ba            Bb                 Bc                             Commodity Y

More so, in order to maximize utility within the substitution effect, where price increase affects power of purchase, the consumer needs to re-schedule consumption to a higher indifference curve which is tangential to Bb. From fig 1.11, the indifference curve is Ia. Hence, the quantity of commodity of Y will reduced from Yb to Ya (shown above), and the equivalent quantity of good X purchased increased from Xb to Xa (shown above), (Volkar, 1987, pp785-790).

The Effect of Consumer Income on Consumer Choice

An equally crucial effect that dictates changes in the consumer behavior towards making choice of what to purchase is the income effect of the consumer. This is a phenomenon that comes to place when the purchasing power shifts to either way. As long as the price of a commodity remains unchanged, changes in the consumer income will cause a parallel and equivalent shift in the budget constraint rightward or leftward for of the both commodities X and Y, this is followed by a corresponding change in the quantity purchase. Graphically, improvement or increase in consumer income will adjust the budget constraint to the right. This is due to increase in the purchasing power for both commodities X and Y.  Therefore, the decreasing income on the other hand shifts leftward.

Com X                        Ic

                 Ia         Ib                                       Fig. 1.12 Income effect on Consumer Choice

Xc

Xb

Xa

                                                             Ba                   Bb                  Bc

                                    Ya    Yb    Yc                                                            Com.Y

With the variability dependent on the quantity of good purchased, the indifference curve shifts wholly. This can either be a decrease, an increase or remaining unchanged when consumer income increases. In fig. 1.13, commodity Y’s increased in the amount purchased with a shifting in budget constraint due to higher income (from Ba to Bb) indicates that it is a normal commodity. For commodity X, the amount purchased decreases hence it is called an “inferior commodity”.

                                    I1               I2

                   Xa                                                                        Fig. 1.13

                   Xb

                                          Ya                  Yb       Ba        Bb

References

Volker Böhm & Hans Haller (1987). “Demand theory,” The New Palgrave: A Dictionary of Economics, v. 1, pp. 785-92.

John R. Hicks 1939, 2nd ed. 1946, Value and capital.

Anyanwuocha R. Agbon, 2001. The Essentials of Microeconomics, Theory of Consumer Behaviour,  chp.24, pp.179-85.  ISBN 987-175-239-4

(Anon) http://www.basiceconomics.info/theory-of-consumer-choice.php

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