Budget Line
A Budget Line is a graphical representation of all possible combinations of two goods that a consumer can purchase within a given amount. The purchasing power of a consumer and the market value of these two products determine the ratio in which one buys these two commodities. This budget line is a straight line with a negative slope depicting the reverse correlation between the two commodities. It can shift one way or the other depending on one of these two things:
- Change in the income of the consumer.
- Change in price of one or both goods.
Budget Set
Budget Set is a bundle of the combination of two commodities that the Budget Line represents. It lies below the Budget Line, and it helps determine the possible quantities of each item that a consumer can buy given their income and the market value of those two goods.
Differences between Budget Line and Budget Set
The main differences between Budget Line and Budget Set are as follows:
|
Budget Line |
Budget Set |
|
Definition |
|
|
A Budget Line is a graphical representation of all possible combinations of two goods that a consumer can purchase within a fixed budget, i.e. their income and existing market prices. |
A Budget Set includes all combinations of two commodities that a consumer can buy within a fixed budget, i.e. their income and existing market prices. |
|
Relationship with Income |
|
|
The price of different combinations of two goods is always equal to the consumer’s income. |
The price of different combinations of two goods is less than or equal to the consumer’s income. |
|
Interrelationship |
|
|
A Budget Line is the borderline that contains the Budget Set. |
A Budget Set is the total combination of different sets of two goods that helps draw the Budget Line. |
|
Combination of Goods |
|
|
The different combinations of two goods are equal to the income of the consumer. |
The different combinations of the two goods are less than or equal to the income of the consumer. |
|
Graphical Representation |
|
|
It is a straight line representing the consumption sets that lie on the Budget Limit in the graph. |
It is a combination of the total number of consumption sets that lie on or under the Budget Line in the graph. |
|
Also known as |
|
|
A Budget Line is also known as the Budget Constraint or Price Line. |
A Budget Set is also known as the Opportunity Set. |
|
Equation |
|
|
P1X1+P2X2 = Y Here, P1 – Price of Good 1 X1 – Quantity of Good 1 P2 – Price of Good 2 X2 – Quantity of Good 2 Y – Total Expenditure/Budget |
P1X1+P2X2 ≤ Y Here, P1 – Price of Good 1 X1 – Quantity of Good 1 P2 – Price of Good 2 X2 – Quantity of Good 2 Y – Total Expenditure/Budget |
Conclusion
The differences between Budget Line and Budget Set help us understand the constraints under which a consumer has to operate while planning their expenditure, to ensure maximum possible satisfaction of their needs.
Frequently Asked Questions on Budget Line and Budget Set
What are the main assumptions behind the concept of Budget Line and Budget Set?
You can draw the Budget Line and Budget Set after considering the following assumptions:
- The consumers will spend their entire income on two commodities.
- They know the market price of the two products.
- Their total income is spent for purchasing these two products and there is no room for other expenses.
What is a shift in the Budget Line and when does it happen?
The Budget Line can shift in a particular direction in certain circumstances. The two circumstances that can influence this line are a change in the consumer’s income and a change in the price of one/both goods. Let us analyse both of these factors in greater detail below:
- Increase in income – Suppose there is an increase in the consumer’s income, but the prices of goods remain unchanged. It will increase their capacity to buy more goods and the consumer has the option to purchase a greater quantity of the same commodity. This increase in a consumer’s income will shift the Budget Line in a rightward direction.
- Decrease in income – Suppose there is a decrease in a consumer’s income, but the prices of goods remain unchanged. It will decrease their capacity to buy more goods, and they will also have to contend with buying a lesser quantity of the same commodity. This decrease in a consumer’s income will shift the Budget Line in a leftward direction.
- Change in price of one commodity – If the price of one product changes but everything else stays the same, it will also impact the Budget Line. If the price of one product falls, the consumer will have the option to purchase more units of that product. And if the market price of that same product goes up, the consumer will have to contend with buying fewer units of that product.
- Change in price of both commodities – If the market price of both products decreases simultaneously, the consumer will be able to purchase more units for both items and the Budget Line will shift towards the right. But if the prices of both products increase together, the consumer will have to purchase less of both commodities and the Budget Line will shift leftwards. If the price of one commodity rises but the other one falls, the buyer can purchase more of the first product but will have to reduce the quantity of the second product. This scenario will further affect the Budget Line.
Comments