Consumer Equilibrium

 

Every consumer aims at getting maximum satisfaction out of his given expenditure. A consumer is said to have attained equilibrium when he spends given income or budget in such a way as to yield optimum satisfaction, given the prices of two goods and the consumer’s preference.

In simple words, a consumer is said to be in equilibrium when he is getting maximum satisfaction out of his limited income.

A consumer may find out his equilibrium condition with the help of indifference curve analysis.

Assumptions

Consumer’s equilibrium through indifference curve analysis is based on the following assumptions.

1.     The consumer is rational and seeks to maximize his satisfaction through the purchase of goods.

2.     The consumer consumes only two goods (X and Y).

3.     The goods are homogenous and perfectly divisible.

4.     Prices of the goods and income of the consumer are constant.

5.     The indifference map for goods X and Y are given. The indifference map is based on the consumer’s preferences for the goods.

6.     The preference or habit of the consumer does not change throughout the analysis.

7.     The income of consumer is given and constant.

Conditions of Consumer’s Equilibrium

The following are the conditions of consumer’s equilibrium

1.     Budget line should be tangent to the indifference curve

2.     At the point of equilibrium, slope of the budget line = slope of the indifference curve

3.     Indifference curve should be convex to the point of origin.

In the following figure, we depict an indifference map with 5 indifference curves – IC₁, IC₂, IC₃, IC₄, and IC₅ along with the budget line PL for good X and good Y.

From the figure, we can see that the combinations R, S, Q, T, and H cost the same to the consumer. In order to maximize satisfaction, the consumer will try to reach the highest indifference curve. Since we have assumed a budget constraint, the consumer will be forced to remain on the budget line.

We can see that R lies on a lower indifference curve – IC₁. The consumer can easily afford the combinations S, Q, or T which lie on the higher ICs. Even if the consumer chooses the combination H, the argument is similar since H lies on the curve IC₁ too.

Next, let’s look at the combination S lying on the curve IC₂. Here again, consumer can reach a higher level of satisfaction within his/her budget by choosing the combination Q lying on IC₃ – higher indifference curve level. The argument is similar for the combination T since T lies on the curve IC₂ too.

Q is the best choice since Q lies on consumer’s budget line and puts consumer on the highest possible indifference curve, IC₃. While there are higher curves, IC4 and IC5, they are beyond consumer’s budget. Therefore,consumer reaches the equilibrium at point Q on curve IC3. At point Q, the budget line PL is tangential to the indifference curve IC3. The slope of PL and IC3 are also equal.

Some parts are adopted from: https://www.toppr.com/guides/business-economics/theory-of-consumer-behavior/consumers-equilibrium/

https://www.businesstopia.net/economics/micro/consumers-equilibrium