Reviewed by Hammad Naziron Apr 01 2013
How Indifference Curve is used in explaining the concept of consumer’s equilibrium?
Let us discuss them:
Equilibrium of the consumer:
In order to explain the consumer’s equilibrium with the help of indifference curves, we make the following assumptions.
Assumptions of the Indifference Curve:
- The consumer purchases two commodities x and y for which he has various combinations. His scale of preferences for the various combinations of these two goods does not change in the analysis.
- The consumer has a fixed amount of money.
- The prices of two goods x and y in the market are given and constant.
- The goods are substitute of each other and divisible.
- The consumer acts rationally.
The consumer will be in equilibrium position where the price line or income line is tangent to the indifference curve.
Equilibrium of the consumer with the help of a Diagram:
AB is the price line or income line. Now P is the point where the indifference curve IC2 is tangent to price line. This is consumer’s equilibrium point. Here he purchases OE of y commodity and OH of x commodity and getting maximum satisfaction.
No other point will yield maximum satisfaction. E.g. if consumer purchases at point T. at this point the consumer has to substitute PR amount of y commodity. To get RT amount of x commodity. But during this purchasing process he cannot go beyond AB line. so when he scarifies PR amount of ‘y’ he will get only “RS” of x commodity, so he will be a loser. Similarly indifference curve IC3 is beyond the reach of the consumer. So the consumer will be in equilibrium only at the point where IC2 is tangent to price line.