Budget Line and Budget Set
What is a budget line?
A budget line represents all possible combinations of two goods that a consumer can purchase with a given income, considering the prices of both goods. It shows the trade-off between the two goods.
How is a budget line represented mathematically?
The budget line can be represented by the equation: M = (PA x QA) + (PB X QB); where PA and PB are the prices of goods A and B respectively, and M is the consumer’s income.
What does the slope of the budget line represent?
The slope of the budget line represents the opportunity cost of one good in terms of the other. It is calculated as [Tex]-\frac{P_A}{P_B}[/Tex] , indicating how many units of good Y must be sacrificed to purchase an additional unit of good X.
What causes the budget line to shift?
The budget line shifts due to changes in income or the prices of the goods. An increase in income shifts the budget line outward, while a decrease shifts it inward. A change in the price of one of the goods will rotate the budget line around the intercept of the good whose price remains constant.
What is a budget set?
A budget set includes all possible combinations of goods and services that a consumer can afford with their given income and prevailing prices. It encompasses all points on and below the budget line.
What factors determine the budget set?
The budget set is determined by the consumer’s income and the prices of goods and services. Any combination within the budget set is affordable given these constraints.
How is the budget set affected by changes in income?
An increase in income expands the budget set, allowing the consumer to afford more combinations of goods and services. Conversely, a decrease in income contracts the budget set.
What is the importance of the budget line and budget set in consumer choice theory?
The budget line and budget set are crucial in consumer choice theory as they define the consumer’s feasible choices. Consumers aim to maximize their utility given their budget constraint, choosing the most preferred combination of goods within their budget set.
How do price changes affect the budget line and budget set?
If the price of a good decreases, the budget line rotates outward, making the good more affordable and expanding the budget set. If the price increases, the budget line rotates inward, reducing affordability and contracting the budget set.
Difference between Budget Line and Budget Set
A budget line and a budget set are two essential concepts that help understand consumer choice and behavior under different constraints. The budget line represents all possible combinations of two goods that a consumer can purchase given their income and the prices of the goods. The budget set includes all the combinations of two goods that a consumer can afford given their income and the prices of the goods.