Consumer Equilibrium

Assumptions of IC Analysis of Consumer’s Equilibrium

1. The consumers have monotonic (quantifiable) preferences.
2. Consumer’s scale of preference for two goods does not change.
3. The price of goods are given and do not change.
4. Income of the consumer is given and stays constant.

Two Conditions of Consumer Equilibrium:

1. MRS= Px/Py (Slope of IC=Slope of price line or IC and price line are tangent to each other)

This condition states that at only the point where IC and budget line are tangent to each other can the consumer get maximum satisfaction because at any other point, their satisfaction is less than maximum. In an indifference map, the consumer will not be satisfied at the IC that cuts the budget line because at these points, the consumer gets lower satisfaction. And the other IC that lies above the budget line is attainable because it does not sit well with the consumer’s budget given their income and prices of two goods.

2. IC is convex at the point of Equilibrium

The convex shape of IC is due to declining MRS, which means that more of one commodity will be consumed only when less of another commodity is consumed. This also aligns with the law of diminishing marginal utility. If the shape of IC is not complex but concave, it indicates that both MRS and DMU are not in operation. In such a situation, the consumer will never reach equilibrium because their satisfaction will only increase on consuming additional units of such goods. Since such a situation is not economically realistic, the IC is always convex to the point of equilibrium.