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5: Consumer Theory and Models

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    Learning Objectives

    • You may have encountered the idea of popular sovereignty in a civics or political science course. This means that the people rule, as opposed to a monarch, dictator, clique of oligarchs, religious authorities, etc. When it comes to the economy, it is often said that consumers are sovereign. Consumer sovereignty is the idea that consumer choices rule the economy. A firm that provides a product or service that better meets consumer wants and needs is likely to succeed and be profitable. A firm that fails to do so will not remain in business very long, or so the theory goes. Evidence that businesses recognize the importance of consumer sovereignty is provided by placards common in many workplaces reminding employees that “the customer is always right.” This notion is also encapsulated in the Latin phrase, De gustibus non disputatum est, which translates into English as “tastes are not disputable”.

      Consumer sovereignty helps explain the breadth of production and marketing activities observed in the economy. To illustrate, consider children’s breakfast cereals. Lots of money is spent on the packaging and promotion of these products. Even if it can be assumed that these cereals are good for children, a critic might argue that everyone would be better off if an entity was set up to simply take flour from oats, rice, corn, or wheat; add sugar and a binding agent; pellet it; and distribute it to families with children. Children would get the same nutrition regardless of whether there was a friendly looking pirate on the box and a cheap toy inside. The critic could argue that all the money that is spent on promoting these products is wasteful and contributes nothing to the nutritional well-being of children. These resources could instead be better used for a worthwhile cause like cancer research or public education. This critic may have a point, but consumer sovereignty suggests that if parents continue to vote with their purchases in favor of branded breakfast cereals (or if children have the power to influence their parents to do so), breakfast cereal companies will exist to meet this demand.

      If consumers are sovereign, then it is probably a good idea to consider models of consumer behavior in a course like this. The aim of this chapter is to provide an overview of some economic theories of the consumer. The first section addresses the neoclassical theory of the consumer. Two extensions of this theory that have particular resonance in food markets are covered next. One is Lancaster’s (1966) model, which emphasizes products as delivery mechanisms for characteristics. The other, Becker’s (1965) model, theorizes that market-sourced products are inputs for household production activities. All three of three of these models – the Neoclassical model, Lancaster’s model, and Becker’s model – are based on the idea that consumers are rationale. They know what they want and what is available. Moreover they can make choices that are best for them given what they are able to afford. The primary objectives of this chapter are as follows:

    • Explain the main logic of consumer choice theory in terms of preferences and budget sets.
    • Graph budget sets and budget frontiers, given price and income data, and explain what happens to the budget set as prices and/or income change.
    • Outline the basic assumptions required for well-behaved preferences. Given a specific example, be able to determine whether these assumptions are satisfied.
    • Describe the difference between ordinal utility and cardinal utility.
    • Graphically derive individual demand functions.
    • Diagram efficient consumption frontiers (Lancaster-type budget constraints) and identify products that are and are not competitive.
    • Analyze how changes in price, income, and product characteristics affect consumer choice in Lancaster’s framework.
    • Describe hedonic pricing models and identify characteristics to be included in a hedonic pricing model for a given product.
    • Derive the full-time income constraint of Becker’s model.
    • Use the logic of Becker’s model to explain consumer valuation of time-saving (convenience) built into food products.
    • Use the logic of Lancaster’s and Becker’s models to analyze trends in food consumption.

    5: Consumer Theory and Models is shared under a CC BY-SA 4.0 license and was authored, remixed, and/or curated by Michael R. Thomsen.

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