Please read and answer the following questions very carefully 1. Explain why a p

Question

Please read and answer the following questions very carefully

1. Explain why a price increase in movie tickets causes the demand curve for chocolate bars to shift.

2. Suppose you are thinking of buying chocolate bars. Your marginal valuation of the seventh chocolate bar is $3. The price of a chocolate bar is $4. Should you buy more or fewer than seven bars?

3. Explain how the law of demand works in the case of a unit demand curve.

4. Can preferences include altruism or a regard for fairness and still exhibit rationality?

Explanation / Answer

Answers in responses to Questions 1 to 4

1. There are two products viz, movie tickets and chocolate bars from which the consumer has to choose on what to purchase. Thus, he can either buy a movie ticket to watch a movie or spend money to buy a chocolate bar. Movie tickets and chocolate bars thus can be considered substitutes of each other in this case. Thus, when price of movie ticket increases, the substitute viz. chocolate bar becomes relatively cheaper. This implies that it is relatively more expensive to watch a movie rather than buy a chocolate bar. Hence, as the relative price of chocolate bar falls with respect to price of a movie ticket, the demand curve of chocolate bars shifts to the right.

2. As the marginal utility derived from consuming the seventh bar of chocolate is less than the the price of the seventh bar of choloctae, you should buy fewer than seven bars. The explanation for this is as follows:-

Marginal utility is the utility that the consumer derives from an additional unit of a good. Diminishing marginal utility is the assumption that marginal utility declines with each additional unit that is consumed. The price of a good reflects opportunity cost. At a given price, a consumer will purchase a unit of a good if the utility derived from consumption of that unit is greater than the utility achieved from any alternative consumption opportunity. If the utility derived from consuming the next unit of the good is greater than the price, the consumer will purchase and consume that unit. In fact, they will continue to purchase successive units of a good till the benefit of consuming each marginal unit of the good exceeds its price. Thus, as long as chocolate bars gives you more satisfaction for your money than other available options, you will continue buying cholocolate bars. In this case, the marginal utility derived from consuming the seventh bar of chocolate viz. $3 is less than the the price of the seventh bar of chocolate viz. $4. Hence, the seventh bar of chocolate should not be purchased. Thus, you should buy fewer than seven bars of chocolate.

3. For providing a response to this question, to start with, it is presumed that the term unit demand curve as mentioned in this question refers to unit elastic demand curve.

The law of demand states that, assuming everything else being equal, as the price of a good increases, quantity demanded decreases. Conversely, as the price of a good decreases, quantity demanded increases. Thus, the law of demand describes an inverse relationship between price and quantity demanded of a good. In case of a unit elastic demand curve, the law of demand works. However, in case of unit elastic demand, a rise in price of a good will cause a proportional decrease in quantity demanded of the good . Similarly, a fall in price of the good will cause a proportional increase in quantity demanded of the good. This implies that a % change in price will result in similar % change in quantity demanded. Thus, elasticity equals 1.  

4. The standard self-interest theories of classical economics is based on the assumptions of fully-rational and self interested behavior. However, in behavioural economics, the concept of fairness or altruism assume significance. The importance of fairness or altrusim suggests the importance of social rules for influencing decisions and economic behaviour. They challenges assumptions of ‘rational economic man’ and standard self-interest theories of classical economics.

One of the basic assumptions of standard Economics, homo economicus (people are fully rational and act only upon their self-interest), is violated.

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