Business Economics

NMIMS Global Access
School for Continuing Education (NGA-SCE)

Course: Business Economics
Internal Assignment Applicable for December 2021 Examination
1. What is Indifference Curve, explain with the help of diagram and also explain its properties.
Answer:- An indifference curve is a graphical representation of a combined products that gives similar
kind of satisfaction to a consumer thereby making them indifferent. Every point on the indifference
curve shows that an individual or a consumer is indifferent between the two products as it gives him
the same kind of utility.
Meaning:- An IC is the point or particular combination which gives the same utility or level of
satisfaction to the consumer, so that he/she is indifferent as to particular combination of what they
consume. In other words, IC refers to the point of representation of the various combinations of two
goods which gives the same level of satisfaction to the consumer.
The above diagram shows the U indifference curve showing bundles of goods A and B. To the
consumer, bundle A and B are the same as both of them give the equal satisfaction.
In other words, point A gives as much utility as point B to the individual. The consumer will be
satisfied at any point along the curve assuming that other things are constant.
Properties of Indifference curve:-

➢ Downward Sloping: An indifference curve slope downward, which means, that with the more
consumption of one good the consumption of the other is to be reduced to maintain the utility.
Here, the principle of the marginal rate of substitution (MRS) applies, which means the
increased consumption of one commodity is to be set off by the reduced consumption of
another commodity, so as to have the same level of satisfaction or utility. Thus, the indifference
curve is negatively sloped.
➢ Convex to the Origin: The indifference curves are convex to the origin because of the
diminishing marginal rate of substitution. The MRS diminishes because of the decline in the
marginal utility, which means with more and more consumption of one commodity, the
customer’s utility starts declining and he is not willing to consume it more at the cost of the
other commodity. For example, let’s say there are two chocolates, dairy milk, and Nestle, with
more and more consumption of dairy milk chocolates the utility continues to decline, and the
customer will no more give up the Nestle chocolates to buy the dairy milk. Here, MRS shows
the slope of the indifference curve.
➢ Higher the indifference curve, the higher is the level of satisfaction: The consumer derives
more satisfaction from the combination of two goods on a higher indifference curve because
more units of both the commodities are used that will surely be more satisfying than the lower
quantity combinations.
➢ Cannot Intersect or be tangent to each other: The indifference curves cannot intersect with
each other, because if it does so, then the combinations of two commodities lying on two
different curves will give the same level of satisfaction which is not correct.
2. Consider the demand for a good. At price Rs 4, the demand for the good is 25 units. Suppose price
of the good increases to Rs 5, and as a result, the demand for the good falls to 20 units. Calculate the
price elasticity?
Answer:-
Px (Price) (Rs) Dx (demand) (Units)
Initial 4 25
New 5 20
So in the above case, the consumer was consuming 25 units of a commodity at a price level of Rs. 4.
Gradually, the Price of the commodity increases to Rs. 5, as a result consumer started consuming 20
units of the same commodity. As the Price of the commodity increases, Demand falls as a consumer
may not be able to afford the same level of units at a New price.
For calculating Price elasticity of Demand,
Where,
= Price Elasticity of Demand
P= Initial price of the commodity
∆P= Change in Price (New price – Initial Price )
Q= Initial Quantity Demanded
∆Q= Change in Quantity Demanded (New Quantity – Initial quantity)
Here,
P= 4
Q= 25
∆P= 5-4 = 1
∆Q= 20-25 = -5
Thus, the absolute value of elasticity of Demand is less than 1.
0.8 < 1 denotes relatively Inelastic demand. Where change in demand is less than change in
Price.
3.a. Two goods have a cross-price elasticity of demand of +1.2 (a) would you describe the goods
as substitutes or complements? (b) If the price of one of the goods rises by 5 per cent, what will
happen to the demand for the other good, holding other factors constant?
Answer:- (a) When two goods having the price elasticity of demand +1.2, they can be termed
as substitute goods because the Cross elasticity of demand is said to be positive in case of
substitute goods.
For example: Rise in the price of McDonald’s will have an increase in demand for Burger King,
it will result in positive cross elasticity of demand (in case of substitute goods). And on the other
hand, if there is Increase in Price of petrol then it will lead to decrease in the demand for cars as
it will have a negative cross elasticity of demand (In case of complementary goods).
(b) Rise in the price of one good by 5%, then the demand of the other good will increase, holding
other factors remaining constant in case of substitute goods. For example: Rise in Price of Tea
will shift consumers to the consumption of coffee and hence the demand for coffee will increase.
Rise in price of one good by 5%, then the demand of the other good will fall, in case of
complementary goods. Example: Petrol and Car, If Price of petrol increases, demand for the
cars in the market will fall, consumer is rational and will switch to public transports hence,
demand for car decreases. On the other hand, if the price of petrol falls, demand for cars will
increase.
3.b. Calculate Marginal Utility and Average Utility from the information given in the below
table:
Quality consumed Total utility
1 20
2 35
3 47
4 55
5 60
Marginal Utility: -
Marginal utility is the added satisfaction that a consumer gets from having one more unit of a
good or service. The concept of marginal utility is used by economists to determine how much
of an item consumer are willing to purchase.
Average Utility: -
Average utility refers to the utility that is obtained by the consumer per unit of commodity
consumed. It is calculated by dividing the total utility by the number of units consumed.
In the table below, at one unit the utility is 20. At two unit, the utility is 35. We therefore work out the
margin by finding the difference between the two. So, in this example, it would be 35 – 20 = 15 and
so on.
Qc TU MU AU
1 20 20 20
2 35 15 17.5
3 47 12 15.7
4 55 8 13.75
5 60 5 12

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NMIMS Global Access

School for Continuing Education (NGA-SCE)

Internal Assignment Applicable for December 2021 Examination

Properties of Indifference curve:-

For calculating Price elasticity of Demand,

= Price Elasticity of Demand

P= Initial price of the commodity

∆P= Change in Price (New price – Initial Price )

Q= Initial Quantity Demanded

∆Q= Change in Quantity Demanded (New Quantity – Initial quantity)

Thus, the absolute value of elasticity of Demand is less than 1.

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