Chapter 6Consumer Choice Theory

1. The term utility refers to thea. usefulness of a good in relation to its scarcity.b. necessity of a good.c. price of a good.d. number of goods a consumer has.e. pleasure or satisfaction a consumer receives upon consuming a good.

ANSa. Incorrect. Utility does not mean “usefulness.”b. Incorrect. Utility does not mean how necessary a good is.c. Incorrect. Utility is not the price of a good.d. Incorrect. Utility is not the number of goods a consumer has.e. Correct. The term utility refers to the pleasure or satisfaction a consumer receives upon consuming a good.

2. When total utility is at a maximum, marginal utility isa. zero.b. positive.c. negative.d. one.

ANSa. Correct. When total utility is at a maximum, marginal utility is zero.b. Incorrect. In this case, total utility would be increasing.c. Incorrect. In this case, total utility would be decreasing.d. Incorrect. If marginal utility is positive, total utility is increasing.

3. The marginal utilities associated with the first 4 units of consumption of good Y are 10, 12, 9, and 7, respectively. What is the total utility associated with the third unit?a. 3.b. 9.c. 25.d. 31.e. The amount cannot be determined from the marginal utilities.

ANSa. Incorrect. See computation in answer d.b. Incorrect. See computation in answer d.c. Incorrect. See computation in answer d.d. Correct. Total utility equals 10 + 12 + 9.

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e. Incorrect. See computation in answer d.

4. Generally speaking, as more of a particular good is purchased, a consumer’s marginal utility __________ and total utility __________.a. increases; decreasesb. decreases; increasesc. increases; increasesd. decreases; decreasese. Generalizations cannot be made

ANSa. Incorrect. According to the law of diminishing marginal utility, marginal utility decreases, and total utility increases with additional units of a good.b. Correct. Generally speaking, as more of a particular good is purchased, a consumer’s marginal utility decreases and total utility increases.c. Incorrect. According to the law of diminishing marginal utility, marginal utility decreases, and total utility increases with additional units of a good.d. Incorrect. According to the law of diminishing marginal utility, marginal utility decreases, and total utility increases with additional units of a good.

5. Marginal utility is defined as thea. extra satisfaction the consumer receives from an extra $1 of income.b. total level of satisfaction a consumer receives upon the consumption of a certain number of goods.c. number of hours a consumer would be willing to work to receive a certain product.d. extra satisfaction a person derives from consuming an additional unit of a good.

ANSa. Incorrect. Extra satisfaction is from an extra unit of a good not an extra $1 of income.b. Incorrect. This answer is for total utility not marginal utility.c. Incorrect. The number of hours of work has nothing to do with the definition of marginal utility.d. Correct. Marginal utility is defined as the extra satisfaction a person derives from consuming an additional unit of a good.

6. The statement “As more of a good is consumed, the utility a person derives from each additional unit diminishes” is known as thea. water and diamond paradox.b. law of diminishing marginal utility.c. law of total utility.d. marginal-utility-to-price ratio equalization rule.

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ANSa. Incorrect. This paradox is an application of the utility concept.b. Correct. The statement “as more of a good is consumed, the utility a person derives from each additional unit diminishes” is known as the law of diminishing marginal utility.c. Incorrect. There is no “law of total utility.”d. Incorrect. This is related to consumer equilibrium and not a law.

7. The law of diminishing marginal utility indicates that the marginal utility curve isa. downward sloping.b. upward sloping.c. U-shaped.d. flat.

ANSa. Correct. The law of diminishing marginal utility indicates that the marginal utility curve is downward sloping.b. Incorrect. This would be contrary to human consumption behavior.c. Incorrect. This would be contrary to human consumption behavior.d. Incorrect. This would be contrary to human consumption behavior.

Exhibit 4 Marginal utility for data for clothes and amusement

Quantity Clothes Amusement1 15 202 13 183 10 134 8 125 6 10

8. Refer to Exhibit 4. Clothes and amusements are priced at $10 each. The marginal utility per dollar for the first unit of amusement isa. 0.5.b. 1.5.c. 2.0.d. 5.0.

ANSa. Incorrect. See calculation in answer c.b. Incorrect. See calculation in answer c.c. Correct. Marginal utility per dollar = 20 (MU)/$10=2.d. Incorrect. See calculation in answer c.

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9. Refer to Exhibit 4. Your budget is $50. The price of amusement goods is $10. If the price of clothes falls to $4, which of the following statements is true?a. The marginal-utility-to-price ratio for clothes will decrease.b. The marginal-utility-to-price ratio for clothes will increase.c. The quantity demanded of clothes will decrease.d. Both b and c are true.

ANSa. Incorrect. See calculation in answer b.b. Correct. For example, MU/P of clothes at 1 quantity is 15/$10 = 1.5; If price falls to $4, then ratio increases to 15/$4 = 3.7.c. Incorrect. See calculation in answer b.d. Incorrect. See calculation in answer b.

10. Refer to Exhibit 4. Clothes and amusements are priced at $10 each. If you had a budget of $50, which of the following combinations of goods would you buy?a. 4 units of clothes and 1 unit of amusement.b. 3 units of clothes and 2 units of amusement.c. 2 units of clothes and 3 units of amusement.d. 1 unit of clothes and 4 units of amusement.

ANSa. Incorrect. Consumer equilibrium equals (MU/P) .8 = 2. b. Incorrect. Consumer equilibrium equals (MU/P) 1 = 1.3.c. Correct. Consumer equilibrium equals (MU/P) 1.3 = 1.5.d. Incorrect. Consumer equilibrium equals (MU/P) .6 = 1.0.

11. Total utility is maximized in the consumption of two goods by equating thea. prices of both goods for the last dollar spent on each good. b. marginal utilities of both goods for the last dollar spent on each good. c. ratios of marginal utility to the price of both goods for the last dollar spent on each good. d. marginal utility of one good to the price of the other.

ANSa. Incorrect. Total utility is maximized in the consumption of two goods by equating the ratios of marginal utility to the price of both goods for the last dollar spent on each good.b. Incorrect. Total utility is maximized in the consumption of two goods by equating the ratios of marginal utility to the price of both goods for the last dollar spent on each good.c. Correct. Total utility is maximized in the consumption of two goods by equating the ratios of marginal utility to the price of both goods for the last dollar spent on each good.d. Incorrect. Total utility is maximized in the consumption of two goods by equating the ratios of marginal utility to the price of both goods for the last dollar spent on each good.

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12. The MU/P equalization principle means consumers will exhaust their expenditure budget so that, in the end, the MU/P ratio isa. zero for each good.b. higher for goods the consumer wants the most.c. maximized for the goods the consumer wants the most.d. the same for each good.

ANSa. Incorrect. The MU/P equalization principle means consumers will exhaust their expenditure budget so that, in the end, the MU/P ratio is the same for each good.b. Incorrect. The MU/P equalization principle means consumers will exhaust their expenditure budget so that, in the end, the MU/P ratio is the same for each good.c. Incorrect. The MU/P equalization principle means consumers will exhaust their expenditure budget so that, in the end, the MU/P ratio is the same for each good.d. Correct. The MU/P equalization principle means consumers will exhaust their expenditure budget so that, in the end, the MU/P ratio is the same for each good.

13. When the price of a good falls, consumers may increase the quantity consumed because they have greater total purchasing power. Which of the following does this statement describe?

a. Substitution effect.b. Income effect. c. Consumer equilibrium effect.d. Price effect.

ANSa. This effect refers to a change in relative prices of competing goods.b. Correct. When the price of a good falls, consumers may increase the quantity consumed because they have greater total purchasing power. This statement describes the income effect.c. This effect refers to equalization of the MU/P ratio.d. This does not describe the effect described in the question.

14. When the price of a good falls, consumers buy more of the good because it is cheaper relative to competing goods. Which of the following does this statement describe?

a. Consumer equilibrium effect.b. Price effect.c. Income effect.d. Substitution effect.

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ANSa. Incorrect. This effect refers to equalization of the MU/P ratio.b. Incorrect. This does not describe the effect described in the question.c. Incorrect. This effect refers change in purchasing when a price falls.d. Correct. When the price of a good falls, consumers buy more of the good because it is cheaper relative to competing goods. This statement describes the substitution effect.

15. When the price of a normal good falls, thena. both the income and substitution effects combine to cause the quantity demanded to increase.b. the substitution effect will cause people to buy more because the good is relatively less expensive.c. the income effect will cause people to buy more because of the increased purchasing power associated with the lower price.

d. All of the answers above are correct.

ANSa. Incorrect. All of the answers are correct.b. Incorrect. All of the answers are correct.c. Incorrect. All of the answers are correct.d. Correct. All of the answers are correct.

16. If utility is not maximized, thena. some change in consumption will increase satisfaction.b. no change in consumption will increase utility.c. only a change in income will increase utility.d. only a change in price will increase utility.

ANSa. Correct. If utility is not maximized, then some change in consumption will increase satisfaction.b. Incorrect. If utility is not maximized, then some change in consumption will increase satisfaction.c. Incorrect. Changes are not restricted to income.d. Incorrect. Changes are not restricted to price.

17. A utility-maximizing consumer would never purchase a good if thea. MU/P is positive.b. marginal utility is positive.c. marginal utility is positive.d. none of the above are correct.

ANSa. Incorrect. A positive MU/P adds to total utility.b. Incorrect. A positive marginal utility adds to total utility.c. Correct. Negative marginal utility is dissatisfaction that reduces total satisfaction.

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d. Incorrect. Answer c. is correct.

18. Diminishing marginal utility means that as you consume more of a good, other things constant, thea. total satisfaction you obtain from consuming this good falls.b. total amount produced begins to fall.c. marginal product begins to fall.d. additional satisfaction you obtain from each additional unit of the good falls.

ANSa. Incorrect. Positive marginal utility can be positive and falling while total satisfaction rises.b. Incorrect. This phase is meaningless.c. Incorrect. This phase is meaningless.d. Correct. Diminishing marginal utility means that as you consume more of a good, other things constant, the additional satisfaction you obtain from each additional unit of the good falls.

19. Assume that an individual consumes only hotdogs and colas and that the last hotdog consumed yields 15 utils and the last cola yields10 utils. If the price of a hotdog is $1 and the price of a cola is $.50, we can conclude that thea. consumer should consume more hotdogs and less cola.b. price of hotdogs is too high. c. consumer should consume fewer hotdogs and more cola.d. consumer is in equilibrium.

ANSa. Incorrect. The MU/P of hotdogs is 15/$1; the MU/P of Cola is 10/$.50 or 20/$1. To achieve consumer equilibrium, consuming fewer hot dogs would raise this ratio and consuming more colas would lower the ratio.b. Incorrect. The MU/P of hotdogs is 15/$1; the MU/P of Cola is 10/$.50 or 20/$1. To achieve consumer equilibrium, consuming fewer hot dogs would raise this ratio and consuming more colas would lower the ratio.c. Correct. The MU/P of hotdogs is 15/$1; the MU/P of Cola is 10/$.50 or 20/$1. To achieve consumer equilibrium, consuming fewer hot dogs would raise this ratio and consuming more colas would lower the ratio.d. Incorrect. The MU/P of hotdogs is 15/$1; the MU/P of Cola is 10/$.50 or 20/$1. To achieve consumer equilibrium, consuming fewer hot dogs would raise this ratio and consuming more colas would lower the ratio.

20. Assume the price of Coca-Cola increases. As a result, your real income decreases and you decrease the quantity of Coca-Cola purchased each month. This is an example of thea. income effect. b. consumer price effect.c. revenue effect.d. substitution effect.

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ANSa. Correct. The income effect is the change in quantity demanded caused by a change in purchasing power.b. Incorrect. This is a meaningless term. c. Incorrect. This is a meaningless term.d. Incorrect. The substitution effect is the change in quantity demanded caused by the change in rice relative to substitutes (competing goods).

21. When the price of a good rises, one effect of this change in price is that some consumers switch to more affordable substitutes, which helps us understand the law of demand. What is this effect called?a. Marginal utility effect.b. Substitution effect. c. Price effect.d. Income effect.

ANSa. Incorrect. This is a meaningless term.b. Correct. The substitution effect is the change in quantity demanded caused by the change in price relative to substitutes (competing goods).c. Incorrect. This is a meaningless term.d. Incorrect.This is a change in real income caused by a change in purchasing power when prices change.

22. According to the utility model of consumer demand, the demand curve is downward sloping because of the law ofa. diminishing marginal utility.b. diminishing consumer equilibrium.c. consumer equilibrium.d. diminishing utility maximization.

ANS:a. correct. As quantity demanded increases, the satisfaction (utility) per unit falls and additional units can be sold only at lower prices per unit.b. Incorrect. This term is nonsense.c. Incorrect. This term does not explain the law of demand.d. Incorrect. This term is nonsense.

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Exhibit 5 Marginal utility data for goods X and Y

Units of good X

Marginal utility of good X

Units of good Y

Marginal utility of good Y

1 20 1 14

2 16 2 12

3 12 3 10

4 8 4 8

5 4 5 6

23. As shown in Exhibit 5, assume that the price of both goods is $1 per unit, and you consume 3 units of good X and 3 units of good Y. To maximize total utility without a budget, you should consumea. neither X nor Y.b. more of X and less of Y. c. less of X and more of Y. d. more of both X and Y. e. less of both X and Y.

ANSa. Incorrect. Although the MU per $1 falls with each unit, the total utility increases. b. Incorrect. Although the MU per $1 falls with each unit, the total utility increases. c. Incorrect. Although the MU per $1 falls with each unit, the total utility increases. d. Correct. Although the MU per $1 falls with each unit, the total utility increases. e. Incorrect. Although the MU per $1 falls with each unit, the total utility increases.

24. As shown in Exhibit 5, assume that the price of both goods is $1 per total unit, and your budget is $5. If you consume 4 units of good X and 1 unit of good Y. To maximize utility, you should consumea. neither X nor Y.b. more of X and less of Y.c. less of X and more of Y.d. more of both X and Y. e. less of both X and Y.

ANSa. Incorrect. Consumer equilibrium occurs at 3 units of X and 2 units of Y. b. Incorrect. Consumer equilibrium occurs at 3 units of X and 2 units of Y.c. Correct. Consumer equilibrium occurs at 3 units of X and 2 units of Y.d. Incorrect. Consumer equilibrium occurs at 3 units of X and 2 units of Y.e. Incorrect. Consumer equilibrium occurs at 3 units of X and 2 units of Y.

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25. As shown in Exhibit 5, assume that the price of good X is $2 per unit and the price of good Y is $1 per unit, and your budget is $11. If you consume 3 units of good X and 4 units of good Y and maximize utility, you should consumea. neither X nor Y. b. more of X. c. more of Y. d more of both X and Y.e. less of both X and Y.

ANSa. Incorrect. Consumer equilibrium occurs at 3 units of x and 5 units of Y.b. Incorrect. Consumer equilibrium occurs at 3 units of x and 5 units of Y.c. Correct. Consumer equilibrium occurs at 3 units of x and 5 units of Y.d. Incorrect. Consumer equilibrium occurs at 3 units of x and 5 units of Y.e. Incorrect. Consumer equilibrium occurs at 3 units of x and 5 units of Y.

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