Posted by Anjali Kaur on Jul 12, 2020
Budget line

The Budget line in economics

This post includes points surrounding the budget line, features of the budget line, and the changes in the budget line. But first, you can go through the meaning of the budget line. A budget line in economics shows all the possible combinations of consumption bundles that a consumer can afford given the prices of both commodity and income of the consumer. Now, let’s learn.

Points on, off and outside a budget line

  • Attainable points are inside the budget and cost less than income (Like point A).
  • Points that are on the budget line they cost exactly equal to the income and are attainable (Like point B).
  • Any Point that is outside the budget line will cost more than the available income and is unachievable (Like point C).
Points on, off and outside the budget line

Features of the budget line

  • Assuming that the entire income is spent on goods then the budget line will be straight.
  • The slope of the budget line depends upon the prices of both the goods, that is, -P1/P2.
  • It is negative in the slope and downward curve because an increase in the consumption of one commodity causes a decrease in the consumption of another commodity.
  • If the entire income is spent on good X, then the horizontal intercept will be M/P1
  • The vertical intercept is M/P2 if the entire income is spent on good Y.
Features of the budget line

What causes a change in the budget line?

Three factors cause changes in the budget line; Price of good X, Price of good Y, and income of the consumer.

When only one-factor changes

Income changes

When the income of the consumer rises, the budget line will shift to the right. Similarly, when the income of the consumer falls, the budget line will shift to the left. As shown below;

When income of the consumer changes

When the price of good X changes

Assuming that price of good Y and income of the consumer remains constant then an increase in the price of good X will make the budget line steeper, that is, the budget line rotates inward on X-axis. Similarly, keeping other factors constant when the price of good X falls, the budget line will become flatter, that is, the budget line rotates outward on X-axis.

Price of good X changes

When the price of good Y changes

Assuming that price of good X and income of the consumer remains constant then an increase in the price of good Y will make the budget line flatter, that is, the budget line rotates outward on the y-axis. Similarly, keeping other factors constant when the price of good Y falls, the budget line will become steeper, that is, the budget line rotates inward on Y-axis.

When price of good Y changes

When two factors change in the same direction and by the same percentage;

If the price of good X and the price of good Y changes in the same direction and by the same percentage. This will lead to a parallel shift in the budget line. If both the prices fall by the same percentage, then the budget line will shift parallel to the right. Similarly, if both the prices rise, then the budget line will shift parallel to the left. As shown below:

There are other cases also that causes the budget line to shift, rotate, or pivot. Like when income changes with a change in the price of good X or good Y. Try those cases yourself and send me the images of your work at contact@LearnWithAnjali.com

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