Chapter 7: The Analysis of Consumer Choice

Start Up: A Day at the Grocery Store

You are in the checkout line at the grocery store when your eyes wander over to the ice cream display. It is a hot day and you could use something to cool you down before you get into your hot car. The problem is that you have left your checkbook and credit and debit cards at home—on purpose, actually, because you have decided that you only want to spend $20 today at the grocery store. You are uncertain whether or not you have brought enough cash with you to pay for the items that are already in your cart. You put the ice cream bar into your cart and tell the clerk to let you know if you go over $20 because that is all you have. He rings it up and it comes to $22. You have to make a choice. You decide to keep the ice cream and ask the clerk if he would mind returning a box of cookies to the shelf.

We all engage in these kinds of choices every day. We have budgets and must decide how to spend them. The model of utility theory that economists have constructed to explain consumer choice assumes that consumers will try to maximize their utility. For example, when you decided to keep the ice cream bar and return the cookies, you, consciously or not, applied the marginal decision rule to the problem of maximizing your utility: You bought the ice cream because you expect that eating it will give you greater satisfaction than would consuming the box of cookies.

Utility theory provides insights into demand. It lets us look behind demand curves to see how utility-maximizing consumers can be expected to respond to price changes. While the focus of this chapter is on consumers making decisions about what goods and services to buy, the same model can be used to understand how individuals make other types of decisions, such as how much to work and how much of their incomes to spend now or to sock away for the future.

We can approach the analysis of utility maximization in two ways. The first two sections of the chapter cover the marginal utility concept, while the final section examines an alternative approach using indifference curves.