Page 79 - DECO101_MICRO_ECONOMICS_ENGLISH

Micro Economics

Notes
An Indifference Curve for Work and Leisure

Hours of
Leisure

6

3
I
1

Hours of Work
4 7
The marginal rate of substitution is the amount of one good (i.e. work) that has to be given up if
the consumer is to obtain one extra unit of the other good (leisure).
The equation is below:
Change in good X
Marginal rate of substitution (MRS)=
Change in good Y

Using figure, the marginal rate of substitution between point A and Point B is;
MRS = –3 / 3 = –1 = 1
Note, the rule is to ignore the sign.
The reason why the marginal rate of substitution diminishes is due to the principle of diminishing
marginal utility. Where this principle states that the more units of a good are consumed, then
additional units will provide less additional satisfaction than the previous units. Therefore, as a
person consumes more of one good (i.e. work) then they will receive diminishing utility for that
extra unit (satisfaction), hence, they will be willing to give up less of their leisure to obtain one
more unit of work.

The relationship between marginal utility and the marginal rate of substitution is often
summarised with the following equation:
MRS = Mu / Mu
x y
6.3 Consumer Equilibrium using Ordinal Approach

If we superimpose the indifference map and budget line as in Figure 6.3, we find that a consumer

has to decide to purchase a particular combination (C) as it falls on his budget line, though a
different combination (D) would be more desirable as it will give a higher level of satisfaction. At
his point of equilibrium C, the price line is touching the indifference line tangentially meaning
that the slopes are equal. The slope of indifference curve indicates the marginal rate of substitution

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