Microeconomics: Consumer Choice and Production Costs

Consumer Behavior and Indifference Curves

• Budget constraint: The limit on the consumption baskets that a consumer can afford.
• Indifference curve: A curve that shows consumption baskets yielding the same level of consumer satisfaction.
• Marginal rate of substitution: The rate at which a consumer is willing to exchange one good for another.
• Perfect substitutes: Two goods for which the indifference curves form a straight line.
• Perfect complements: Two goods for which the indifference curves form a right angle.
• Normal good: A good whose quantity demanded increases as income rises.
• Inferior good: A good whose quantity demanded falls as income rises.
• Income effect: The variation in consumption that results when a price change moves the consumer to a higher or lower indifference curve.
• Substitution effect: The variation in consumption that results when a price change moves the consumer along a given indifference curve to a point with a new marginal rate of substitution.
• Giffen good: A good for which the quantity demanded increases when its price rises.

Properties of Indifference Curves

1. Higher indifference curves are preferred to lower ones.
2. Indifference curves slope downward.
3. Indifference curves do not intersect.
4. Indifference curves are bowed inward.

The relative price is the rate at which the market is willing to trade one good for another, while the marginal rate of substitution is the rate at which the consumer is willing to exchange one good for another.

Firm Production and Cost Analysis

The company's goal is to maximize profits (the amount received from the sale of its output).

• Total revenue: The amount a company receives from the sale of its output.
• Total cost: The market value of the inputs a company uses in production.
• Profit: Total revenue minus total cost.
• Explicit costs: Input costs that require an outlay of money by the company.
• Implicit costs: Input costs that do not require an outlay of money by the company.
• Economic profit: Total revenue minus total cost, including both explicit and implicit costs.
• Accounting profit: Total revenue minus total explicit cost.
• Economist's view: Includes all opportunity costs (both explicit and implicit).
• Accountant's view: Measures explicit costs only.
• Production function: The relationship between the quantity of inputs used to produce a good and the quantity of output of that good.
• Marginal product: The increase in output experienced by adding one more unit of input.
• Diminishing marginal product: The property whereby the marginal product of an input decreases as the quantity of the input increases.
• Fixed costs: Costs that do not vary when the quantity produced changes.
• Variable costs: Costs that vary when the quantity produced changes.
• Average total cost (ATC): Total cost divided by the quantity of output.
• Average fixed cost (AFC): Fixed cost divided by the quantity of output.
• Average variable cost (AVC): Variable cost divided by the quantity of output.
• Marginal cost: The increase in total cost that arises from producing one extra unit of output.
• Efficient scale: The quantity of production that minimizes average total cost (ATC).