The budget line, Macroeconomics

The Budget Line: The Consumer Constraints

The consumer would like to maximize his satisfaction by reaching the highest possible indifference curve. But in the process, he faces constraints in form of his income and prices of goods and services for which he has to make payment. The budget line shows various combinations of food and clothing that a consumer can purchase given his money income and prices of the two goods. Suppose the consumers' money income (M) is Rs 600 per week and the price of food (Pf) is Rs 3 and the price of clothing (Pc) is Rs 60. Fig. 3.8 shows that if the consumer spends all his income on food, he would buy 200 units of food per week (point B). On the other hand, if he spends all his income on clothing he could buy 10 units of clothing per week (point A).

By joining points A and B by a straight line we define budget line AB. Thus, the budget line depicts 'all combinations of two goods that a consumer can purchase by spending his given money income on the two goods at their given prices. Each such combination is represented by a point on the budget or price line.

The budget equation can be written in the form:

QX, Pf + Qy.Pc = M

where Qx and Qy are the respective quantities of food and clothing purchased.

1953_budget line.png

Slope of AB = Pf /Pe

Any point outside the given price line, like G, is not attainable by the consumer and at point L the consumer underspends his income. An increase in the money income, prices remaining constant or an equal proportionate increase in prices (ceteris paribus), shifts the budget line upwards parallel '(line EF) to the original budget line. Similarly, a decrease in the money income shifts the budget line downwards (line CD).

750_budget line1.png

With a change in price, the budget line will rotate on the axis representing the good whose price has changed, money income and price of the other good remaining constant. A decrease in the price of the good pivots the budget line to the right or outwards and vice versa. In Fig. 3.9 a decrease in the price of food to Rs 2 rotates the budget line to the position AN and an increase in price to Rs 6 pivots the budget line inwards to AR.

Posted Date: 7/21/2012 6:26:02 AM | Location : United States







Related Discussions:- The budget line, Assignment Help, Ask Question on The budget line, Get Answer, Expert's Help, The budget line Discussions

Write discussion on The budget line
Your posts are moderated
Related Questions
Consumer Prices Index Two economic indices learnt at AS are the Consumer Prices Index (CPI) and the Retail Prices Index (RPI). Both are used to calculate the average price lev

discuss the effect that the activities of a trade union might have on an economy?

1. Suppose the banking system has reserve of $750000, demand deposits of $2500000 and a reserve requirement of 20%. a. if the fed now purchases $125,000 worth of govt bonds from t

mundell-Fleming Model

The price and quantity of lumber and other building materials has gone up recently. Show graphically and explain what might have caused this.

discuss modern theory of determination of rent?

ACCOUNTING SYSTEM-EXAMPLE Let us now introduce a complication. There are three firms in the production sector. The Fruit Extracts Company manufactures from raw fruit, fruit ext

"Nearly all critics agree that consumers have the most benefits in a perfectly competitive market." Does the above statement apply to microeconomics or macroeconomics? Why? Think a

what is the meaning of the credit multiplier in the monetary sector

Cd players are produced on an automated assembly line process. The standard cost of CD players is 150.00 per unit. The sales price is $300.00 per unit. To achieve a 10 percent mult