Hi friends, in today’s article we are going to know about consumer equilibrium with the help of indifference curve. So let’s discuss in details.
Explain Consumer Equilibrium with the help of Indifference Curve
A consumer is said to be in equilibrium when he gets maximum satisfaction out of his money income and he has no tendency to make any change in his existing bundles of commodity. When the consumer reaches such a point he will have no urge to increase or decrease the purchase of any commodity.
Assumptions of Consumer Equilibrium
• Consumer’s income and prices of the commodities are given.
• Commodities are homogeneous and divisible.
• Consumer is rational.
• Consumer has a given indifference map which shows scale of preference of various bundles of two commodities, say X and Y.
• Perfect competitive market prevails.
In indifference curve analysis consumer equilibrium is established when following two necessary and sufficient conditions are satisfied. Following are the two important conditions for consumer equilibrium indifference curve analysis.
(i) MRSxy should be equal to price ratio of X and Y, that is MRSxy = Px/Py
(ii) The indifference curve should be convex to the origin at the point of tangency between price line and indifference curve is convex to the origin.
Given the scale of preference of the consumer it is possible to determine his indifference map. The slope of indifference curve measure the MRS of X for Y. MRS explain the ratio of sacrificed amount of Y good in order to get X good. It goes on diminishing with each additional combination.
The slope of price line measures the ratio of prices of two commodities, X and Y. Thus, the first order condition for consumer’s equilibrium is that the slope of budget line is equal to the slope of indifference curve. This is shown in the following figure –
The IC1 cuts the price line AB at R and T. Consumer can not doubt buy these combinations but here slopes of price line and IC1 are not equal or MRSxy is not equal to the price ratio of the consumer will have a tendency to alter his purchase. So, R and T do not represent the points of equilibrium of consumer.
The price line AB is tangent to IC2 at S. So, S is the point of consumer’s equilibrium where he buys OQ units of X and OP units of Y.
This is necessary but not the sufficient condition for the attainment of consumer equilibrium. The most important and sufficient condition for consumers equilibrium is that the indifference curve must convex to the origin at the point of tangency between price line and the indifference curve. This can be shown by the following diagram-
In the figure, the price line AB is tangent to IC1 at point S. Although the first condition for equilibrium is satisfied at this point, yet this is not the position of stable equilibrium of the consumer. At point S, the indifference curve IC1 is concave to the origin and MRS of X and Y has been increasing.
In such a situation, consumer has a tendency to prefer the purposes of more unit of X. So, consumer can not be regarded in equilibrium at point S. The stable equilibrium of the consumer is determined at point R where price line AB is tangent to IC2 and MRS of X for Y is equal to the price ratio of X and Y.
At the same time, IC2 is convex to the origin at point R and MRS of X of Y has been decreasing. So both the conditions for consumer equilibrium are satisfied at point R. This is precisely the position of consumer equilibrium.
So friends, this was the concept of consumer equilibrium with the help of indifference curve. Hope you get the full details about it and hope you like this article.
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