Economics%20D10-1:%20Lecture%202

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Economics D10-1 Lecture 2

• Preference-based and Choice-based approaches to
  individual decision-making (MWG ch 1)

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Preference-based approach

• Binary preference relation
• Consumption set X
• E.g., x y for x,y ? X
• Rationality a preference relation is rational
  if it is
• Complete ?x,y ?X, either xy or yx, or both.
• Transitive x y and y z ? xz
• Representation The utility function uX??
  represents if, ?x,y ?X, u(x)u(y) ? x y

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Choice-based approach employs a choice structure

• Family of budget sets B?B B?X.
• Choice rule C(B) a correspondence that maps a
  budget set into a set of acceptable choices.
• For any budget set B ? B, C(B)?B lists the subset
  of alternatives selected by the decision-maker.
• Consistent Choices The Weak Axiom of Revealed
  Preference (WARP).
• B,C(.) satisfies WARP if, given B ? B, x,y ? B,
  and x?C(B), Then for any B? ? B s.t. x,y?B? and
  y ? C(B?), we must also have x ? C(B?).

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Duality the relationship between the two
approaches consumer theory

• Preference-based approach
• Assumes
• The existence of a rational preference ordering
• Rational choices from budget set
• Predicts
• Characteristics of choices
• Effects of changes on choices

• Choice-based approach