Question

Explain the concept of Marginal Rate of Substitution and its behaviour along the typical indifference curve. Give a numerical example. Also give reason for its behaviour.

Answer 1

MRS is the amount of one good a consumer will sacrifice for an additional unit of another good while remaining on the same indifference curve. For X and Y: \[ \mathrm{MRS}_{XY}=\left|\frac{\Delta Y}{\Delta X}\right| \]

For example, as a consumer gains successive units of X, suppose the quantities of Y sacrificed per extra unit of X are 5, 4, 3 and 2. MRS therefore diminishes along the typical indifference curve. As more X is consumed, its marginal utility falls, so the consumer is willing to give up progressively less Y for another unit of X. Diminishing MRS explains why the curve is convex to the origin.