Question

discuss the process through which an individual's demand curve can be developed and then how a market demand curve can be determined. This involves utility, marginal utility, and indifference curves. Be sure to discuss the process (equating the marginal utility per dollar spent across goods consumed) a consumer uses to achieve maximum satisfaction in consumption aka as the rational spending rule and the concept of diminishing marginal utility (this marginal comparison process is the heart of much of economics). Also be sure to discuss the difference between the income and substitution effect that takes place when the price of good changes (use a good that you consume as an example in your discussion).

Answer 1

the process which determines the individual demand curve and market demand curve is THE LAW OF DEMAND which states the inverse relationship between price and quantity demanded. this means that the demand curve is downard sloping line. now, the rationale behind it is the LAW OF DIMINISHING MARGINAL UTILITY(LDMU) which states that marginal utility attained from each successive unit goes on decreasing as more units of the commodity are consumed. lets take example of an ice cream. the consumer will be willing to buy additional units of ice cream only if there is a decrease in price as well. tha above picture shows the consumer utility schedule for ice cream. from here we can see that consumer will buy 3 units of ice cream since price is $5 and marginal utility obtained from that unit is equal to price. he will neither buy more nor less because if he buys more then marginal utility obtained from each unit will be lower than per dollar price and if he buys less than there is scope for buying more.

NOW IF PRICE RISES TO $7, he will buy only 1 unit because here marginal utility is equal to price from above schedule. also when we take the income and substitution effect into consideration, we see that income is fixed and price rises inducing the person to buy less of ice cream and substitution effect inducing him to buy a comparatively cheaper substitute for icecream but these combination must give same utility for the purpose of indifference curve where each basket of commodity provides equal utility.

NOW IF PRICE FALLS TO $4, he will buy 4 units because here marginal utility will be equal to price according to above schedule,. also when we take the income and substituion effect into account, we see that income is fixed and price falls inducing the person to buy more of ice cream and substitution effect inducing him to buty less of other substitute as price of ice cream has fallen but these combination must give same utility for the purpose of indifference curve where each basket of commodity providing equal utility

THEREFORE, IT CAN BE SEEN THAT WHEN PRICE RISES, CONSUMER BUYS LESS OF ICE CREAM AND WHEN PRICE FALLS, CONSUMER BUYS MORE OF ICE CREAM AND WITH THESE DEDUCTIONS AND GENERAL CONSUMER BEHAVIOUR WE CAN DERIVE A DEMAND CURVE.