Indifference Curve Definition, Properties, Analysis, Assumptions

With normal goods, the negative income effect means less consumed of each good, as shown by the direction of the “i” (income effect) arrows on the vertical and horizontal axes. Indifference curves are essential tools in microeconomics, representing the set of all consumption bundles that provide a consumer with the same level of satisfaction or utility. In simpler terms, an indifference curve illustrates various combinations of two goods that make a consumer equally happy. These curves are typically downward sloping, indicating that as the quantity of one good increases, the quantity of the other good must decrease to maintain the same level of utility. The income effect is that the higher wage, by shifting the labor-leisure budget constraint to the right, makes it possible for Petunia to reach a higher level of utility. The income effect, encouraging Petunia to consume both more leisure and more income, is drawn with arrows on the horizontal and vertical axis of Figure B5.

Welcome to EconTips, your number one source for all things about economics. We are dedicated to providing you with the very best in economics knowledge, with an emphasis on microeconomics and macroeconomics. It is the ratio of the units omitted from commodity Y and the amount of units substituted from commodity X.

Limitations of Indifference Curves

An individual will typically shift their consumption level as their income increases because they can afford more commodities. They’ll end up on an indifference curve that’s farther from the origin as a result and hence better off. Indifference curve analysis is a purely technological model which cannot be used to model consumer behaviour. Every point on any given indifference curve must be satisfied by the same budget (unless the consumer can be indifferent to different budgets).

Intermediate Microeconomics Copyright © 2019 by Patrick M. Emerson is licensed under a Creative Commons Attribution-NonCommercial-ShareAlike 4.0 International License, except where otherwise noted. A is preferred to BB is preferred to A, orA is equally good as B. To understand the first two properties, it’s useful to think about what would happen if they were not true. Bundles can contain many goods, but to simplify, we will consider only pairs of goods. At first, this may seem impossibly restrictive, but it turns out that we don’t really lose generality in so doing. We can always consider one good in the pair to be, collectively, all other consumption goods.

The consumer does not need to know correctly the amount of utility he gets as in the cardinal approach. Marginal Rate of Substitution can be defined as the amount of Good Y sacrificed to obtain an additional unit of Good X without affecting the total satisfaction level. Based on this geometry, each indifference curve will be getting flatter as you move down and to the right.

The two arrows labeled with “s” for “substitution effect,” one on each axis, show the direction of this movement. Lilly’s budget constraint, given the prices of books and doughnuts and her income, is shown by the straight line. Lilly’s optimal choice will be point B, where the budget line is tangent to the indifference curve Um. Lilly would have more utility at a point like F on the higher indifference curve Uh, but the budget line does not touch the higher indifference curve Uh at any point, so she cannot afford this choice. A choice like G is affordable to Lilly, but it lies on indifference curve Ul and thus provides less utility than choice B, which is on indifference curve Um. These arguments about the shapes of indifference curves and about higher or lower levels of utility do not require any numerical estimates of utility, either by the individual or by anyone else.

Indifference Curve : Meaning, Assumptions & Properties

Demand is initially at 3(tangent K), and the substitution effect (the movement aroundindifference curve, IC1) results in a fall in demand to 2, and anew tangent at point M. However, when the income effect is added(with the budget line shifting to budget line 2), the quantitydemanded increases from 2 to 4, with the new tangent at L(tangent budget line 2/IC2). So,the income effect (which increases demand) outweighs thesubstitution effect (which reduces demand).

1. Now consider bundle latexA/latex on one of the indifference curves.
2. Every point on any given indifference curve must be satisfied by the same budget (unless the consumer can be indifferent to different budgets).
3. A good that makes a consumer just as well off as a fixed amount of another good, i.e., Morton and Diamond Crystal are brands of table salt.
4. At B, Petunia has 40 hours of leisure per week and works 40 hours, with income of $800 per week (that is, 40 hours of work at $20 per hour).
5. With this indifference curve, we can move on to the other pieces of the model that we will study in chapters 2, 3, and 4.
6. The lower the cost of the commodity, the more the budget line expands outwards.
7. The ratio of these two quantities Delta Y/ Delta X is called the marginal rate of substitution (MRS).

To introduce these, it is useful to think of collections or bundles of goods. To simplify, let’s identify two bundles, latexA/latex and latexB/latex. The way we think of preferences always boils down to comparing two bundles. Even if we are choosing among three or more bundles, we can always proceed by comparing pairs and eliminating the lesser bundle until we are left with our choice.

This concept allows economists to analyze and understand consumer preferences and behaviors under different circumstances, such as changes in income or price levels. This is equivalent to saying that as the consumer substitutes commodity X for commodity Y, the marginal rate of substitution diminishes of X for Y along an indifference curve. It slopes downward because as the consumer increases the consumption of X commodity, what are the properties of indifference curve he has to give up certain units of Y commodity in order to maintain the same level of satisfaction.

1. As used in biology, the indifference curve is a model for how animals ‘decide’ whether to perform a particular behavior, based on changes in two variables which can increase in intensity, one along the x-axis and the other along the y-axis.
2. Firstly, we can identify the consumer’s budget line for a specific good.
3. Thus, Lilly’s preferences will include an infinite number of indifference curves lying nestled together on the diagram—even though only three of the indifference curves, representing three levels of utility, appear in Figure 1.
4. If a bundle has more burritos, the student will have to have fewer sandwiches and vice versa.
5. Consumer preferences might change between two points in time, rendering specific indifference curves practically useless.
6. Where latex\Delta/latex indicates a change in the quantity of the good.
7. For example, we could bundle all the other goods an individual could purchase, keep their prices and budget constant, and simply vary the price of burgers (or any single product).

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The size of these income and substitution effects will differ from person to person, depending on individual preferences. For example, if Ogden’s substitution effect away from pizza and toward haircuts is especially strong, and outweighs the income effect, then a higher price for pizza might lead to increased consumption of haircuts. This case would be drawn on the graph so that the point of tangency between the new budget constraint and the relevant indifference curve occurred below point B and to the right. Conversely, if the substitution effect away from pizza and toward haircuts is not as strong, and the income effect on is relatively stronger, then Ogden will be more likely to react to the higher price of pizza by consuming less of both goods. In this case, his optimal choice after the price change will be above and to the left of choice B on the new budget constraint.

You should understand, when graphically represented, that the indifference curve for standard preferences lies between perfect complements and perfect substitutes. No two indifference curves can give the same utility to the consumers. If they intersect, it will signify that there is at least one combination in both the curves which provides an equivalent utility which is not possible.

One of the basic assumptions of indifference curves is that the consumer purchases combinations of different commodities. He is not supposed to purchase only one commodity, in which case the indifference curve will touch one axis. Shows a whole set of indifference curves which is called an indifference map. An indifference map shows all the indifference curves which rank the preference of the consumer.