## CONSUMER BEHAVIOUR ANALYSIS

We will be studying 4 different cases of shift in equilibrium through indifference curve approach. But before we start u should know the following things:

**Price elasticity of a good through expenditure method;**

- When elasticity denoted by E
_{p}is less than 1 then there exists a direct relationship between price and total expenditure. - When E
_{p}> 1 then there is an inverse relationship between them i.e. they move in opposite directions. - E
_{p}=1 the expenditure remains same irrespective of prices.

**Pivotal shifts**

The one sided shift of budget line is known as pivot shift i.e. either the point on x axis or on y axis shifts from its position.

**These two points remain common in all cases**

**The fall in prices causes a pivot shift of budget line on x axis towards right. (B to B**^{’})**The new position of indifference curve depends upon the price elasticity of good x**

**CASE 1**

**E**_{p} < 1 and price of good x falls

_{p}< 1 and price of good x falls

- As in this case there is a direct relationship between price and expenditure the fall in prices lead to increase in demand for good x but decrease in expenditure simultaneously.
- This decrease in expenditure leads to excess income which is now used to buy good y and hence increasing the demand or consumption for good y.
- The new equilibrium must lie between P and Q as to the left of P demand for good x will fall which is not possible as it will break the law of demand and to the right of Q demand for good y will fall which is against our theory just proven in previous point.

**Case 2**

**E**_{p} > 1 and price of good x falls

_{p}> 1 and price of good x falls

- As in this case there is an inverse relationship between price and expenditure the fall in prices lead to increase in demand for good x (x
_{1}to x_{2}) and a simultaneous increase in expenditure on good x. - This increase in expenditure reduces the available income and therefore we have to reduce quantity of good y (Y
_{1}to Y_{2}) and hence decrease its demand. - The new equilibrium must lie between P and Q as to the left of the quantity of good Y increases which will go against are deduction in previous point.

**Case 3**

** E**_{p} = 1 and price of x falls

_{p}= 1 and price of x falls

- As in this case the expenditure on good x is independent of its price therefore a fall in price of x will have no effect on expenditure but the quantity of good x will increase with such an amount that it will nullify the effect of residual or increased income.
- There will be no change in the quantity of good y .
- The new equilibrium must lie at point E
_{2}only so that quantity of x increases without any effect on quantity of y.

** **

**Case 4**

**E**_{p} = 0 and price of good x falls

_{p}= 0 and price of good x falls

- As in this case price elasticity is zero therefore a fall in prices will not-effect the quantity of good x
- The residual income due to reduced prices of good x will now be absorbed by good y entirely leading to increase in quantity of good y
- The new equilibrium must establish at point E
_{2}to satisfy the condition of constant quantity of good x.

**Case 5**

**Elasticity = infinity**

### This case does not exist in reality as price cannot change in this situation as the effect on demand due to change in price cannot be predicted.

_{ Savings For One But Inimical For The Economy (Paradox Of Thrift)}

_{ Savings For One But Inimical For The Economy (Paradox Of Thrift)}

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