Consumer Equilibrium

The consumer is said to be in equilibrium when he purchase a definite bundle of goods from among those available to him within his income range. Obviously, a consumer will choose a bundle that gives him maximum satisfaction. The bundles of goods that offer varying amounts of satisfaction to the consumer are shown by his indifference map. The budget line, on the other hand, shows the bundles that he can really purchase with his given income and the given prices of two goods X and Y. the position of equilibrium of point of maximum satisfaction is one where indifference curve is tangent to the budget line. Thus, the first condition of equilibrium is the tangency of the indifference curve and the budget line which means

MRSxy = Px /Py.

The second condition is that for the equilibrium to be stable the marginal rate of substitution must be diminishing at this point of tangency, i.e. the indifference curve must be convex towards the origin at the point of tangency.