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#cfa #cfa-level-1 #economics #microeconomics #reading-14-demand-and-supply-analysis-consumer-demand #section-3-utility-theory #study-session-4
As Smith gives up slices of bread for more ounces of wine, her MRSBW increases; her indifference curve becomes steeper. Simultaneously, as Warren gives up ounces of wine for more slices of bread, his MRSBW decreases; his indifference curve becomes less steep. Eventually, if they continue to trade, their MRSs will reach equality and there will be no further gains to be achieved from additional exchange. Initially, it was the differences in their willingness to trade one good for the other that made trading beneficial to both. But if they trade to a pair of bundles at which their MRSs are equal, then trading will cease.
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3. UTILITY THEORY: MODELING PREFERENCES AND TASTES
There is no more bread or wine than when they began, but there is greater wealth because both are better off than before they traded with each other. Both Smith and Warren ended on higher indifference curves than when they began. <span>As Smith gives up slices of bread for more ounces of wine, her MRS BW increases; her indifference curve becomes steeper. Simultaneously, as Warren gives up ounces of wine for more slices of bread, his MRS BW decreases; his indifference curve becomes less steep. Eventually, if they continue to trade, their MRSs will reach equality and there will be no further gains to be achieved from additional exchange. Initially, it was the differences in their willingness to trade one good for the other that made trading beneficial to both. But if they trade to a pair of bundles at which their MRSs are equal, then trading will cease. EXAMPLE 3 Understanding Voluntary Exchange Helen Smith and Tom Warren have identical baskets containing books (B) and compact discs (D). Smith’s MR


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