Answer to Question #172269 in Economics for Oluwasola

Question

Consider an economy with three goods, viz., a public good G (e.g. defence); a private consumption good x (e.g. food), and the production factor labour L (also “private”). There are two (types of) households each having an endowment of labour equal to 1, which is supplied inelastically. Household A has the utility function , and household B has the utility function . (The superscripts A and B indicate household type while the superscript 3 denotes power.) The public good is produced using the technology G = L_G, while the private good is produced using the technology x = L_x. Choose labour as the numeraire good so that the wage rate is equal to 1.

Answer 1

The utility function, the indifference curve, and the budget constraint serve as tools for analyzing consumer behavior. With their help, the consumer's equilibrium is found - the optimal set of consumer goods in equilibrium.

Preference relationships are described using a utility function. If the axioms of comparability, transitivity, and continuity of consumer preference are fulfilled, then the preference relation can be represented as a function reflecting the relationship between the volumes of goods consumed in a set of goods and the level of utility achieved by the consumer when consuming this set of goods.

A utility function is a formal description of the target attitudes of the consumer, i.e. dependence of the level of utility on the set of consumed goods.