Assumptions about Consumer Preferences

Two assumptions about consumer preferences were explained in the previous lesson. The remaining two are explained below.

Transitivity

It means that a consumer's preferences are consistent across different market baskets. For example, a consumer prefers Basket A over Basket B and Basket B over Basket C. It is expected that the same consumer would prefer Basket A over Basket C. This can be symbolically represented as

If A ≻ B and B ≻ C, then A ≻ C.

As consumers accumulate more of a specific good, their willingness to sacrifice another item to acquire even more of those particular goods decreases.

The rate at which a person is willing to trade one good for another is called the Marginal Rate of Substitution, or MRS. A consumer's willingness to trade one good for another changes as they acquire more of a good.

The marginal rate of substitution (MRS) is the ratio of the quantity of one good the consumer is willing to give up to acquire one more unit of another good. For example, when the consumer initially has one burger and a plate full of cookies, she may be willing to give up three of her cookies to receive an additional burger. The ratio of MRS is three cookies to one burger.

If she would like an additional burger after she already has two, she will likely value having a third burger less than the second burger. This implies that she may be willing to only give up two cookies to receive a third burger. Therefore, the number of cookies that she is willing to sacrifice to attain one more burger falls as she acquires more burgers.

This is an example of a diminishing marginal rate of substitution: the MRS of a good tends to fall as the consumer attains more and more units of that good.