Rock Street, San Francisco

The rational consumer theory is a framework
for understanding and modelling economic and social behaviour. The theory
states that consumers will always make prudent and logical purchases, resulting
consumer satisfaction within the specific nature of good selected.  Thereby stating that consumers assess the optimal way to leverage their
purchasing power, to maximize their utility and minimize opportunity costs

Interestingly, there are real world implications that may disprove the rational consumer
theory, this is due aspects such as stress, anxiety, and time, which lead the
consumer to make illogical and irrational choices. “Our
irrational behaviours are neither random nor senseless; we all make the same
types of mistakes over and over, because of the basic wiring of our brains” (Dan Ariely, Predictably Irrational – 2008).

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To
exemplify the Budget Constraint, Figure 1 displays the rational decision making
of a consumer named Ashley, who is observing two different types of
refreshments from a store. The consumer’s income is £50 a week, and the cost of
a Case of Coca-Cola is £5 whilst the Case of Pepsi is £2.50. Therefore, Figure
1 illustrates the maximum bundle amount the consumer can purchase under
Ashley’s budget. For example, if Ashley spends his total income on Cases of Coca-Cola,
then this would result in Ashley obtaining 10 Cases of Coca-Cola, furthermore,
if Ashley decided to instead spend all of his income on Cases of Pepsi, then this
would result in having 20 Cases of Pepsi. These two items can then be combined
as long as it is in the budget constraint. If Ashley willingly sacrificed a
single Case of Coca-Cola, then he would be able to purchase two Cases of Pepsi,
this is due to the slope of the budget constraint (A1) being -0.5= (-(10/20).

­As you can see in Figure 1, the budget constraint curve has now shifted
to the right (A2), this is due to there being a speical offer of 20% off the
price of Cases of Pepsi. This shall
thereby increase Ashley’s budget constraint for Cases of Pepsi by 20%, the
discount leads to further benefits such as increasing the variety of bundles
that can be combined with Cases of Coca-Cola, and this is due to him having 20%
more to spend on Cases of Pepsi. If his income w­­as allocated equally at £25
for both shops, the offer would result in him having £5 more to spend on Cases
of Pepsi. However, this does not increase the amount of units purchasable of Cases
of Coca-Cola (y-axis) in the budget constraint, as the offer is exclusive to Cases
of Pepsi.

There is also an indifference curve displayed in figure
1, this curve shall exhibit all of the combinations of two products, which will yield the same level of
satisfaction or utility t­­o the consumer. Firstly, the curve is quite steep meaning
that the marginal rate of
substitution is high, so Ashley person would be willing to give up a very large
amount of y to obtain very little of x. Ashley’s main objective when
choosing what bundle to consume, is to reach the highest level of utility ,
thereby achieving the highest indifference curve possible. Therefore, if
Ashley gains a pay rise, then his net utility will rise, resulting in an upward shift on the indifference curve from (I1) to (I2), thereby
increasing consumption of goods
X and Y.  When considering both the budget constraint and
indifference curve, the ‘Optimal bundle point’ from Figure 1 is where the
circle situated, meaning that the optimal point will be when Ashley purchases
20 ‘Cases of Pepsi’ and 2 ‘Cases of Coca-Cola’. Figure 1 further shows that
even though Ashley’s has not fully utilised the 20% discount applied to ‘Cases
of Pepsi’, he has managed to allocate the optimal bundle of goods within this circumstance, in which shall provide
him with the highest utility.

Overtime,
Ashley’s preference towards Pepsi and Coca Cola have become equal. Therefore, from
Figure 2, Ashley’s change in preference makes both of these products perfect
substitutes, hence making the indifference curve linear. Ashley shall therefore
try to gain the highest possible utility at the best possible price for him; and
this is the point whereby he is able to purchase the highest amount of goods
given his weekly budget. This is because the two products are perfect
substitutes and therefore he will not have a preference regarding either good.
For example, in Figure 2, we can see Ashley will gain the highest utility at
the point where line B2 intercepts the x-axis, as he will be able to get 25 Cases
of Pepsi and zero Cases of Coca Cola, thereby exploiting the 20% discount applied. This
is a demonstration of the continuity and convexity axiomatic assumptions being
broken.

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