The section of this chapter that I found most confusing was
how interest rates affect household savings, specifically the part about the
income effect inducing Sam to save less.
I think I understand the theory, but I don’t see that happening in real
life. I have never known anyone to say
“the interest rate on my savings account just went up, now I don’t have to save
as much.” It is likely that the person
would continue to put the same amount in savings, or even more because of the
incentive of a higher rate.
One of the core concepts of the theory of consumer choice is
that society faces trade-offs between work and leisure. Also consumers are limited by budget
constraints and what they can actually afford.
An indifference curve shows the consumption bundles that will satisfy a
consumer. The optimum point (where the
highest indifference curve meets the budget constraint) is the best combination
for the consumer. Changes in income and
in prices can affect the consumer’s choices by shifting their indifference
curve. With an increase in income, the
consumer can buy more, so the curve adjusts (shifts to the right) for the
increase in options. On the other hand,
if the price of one of the items that constitutes the curve increases, the
curve would shift to the left, showing a decrease in options that the consumer
can afford.
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