revealed preference theory

Revealed preference theoryclick for a larger image
Fig. 172 Revealed preference theory.

revealed preference theory

an explanation for an individual consumer's downward-sloping DEMAND CURVE, requiring the consumer to reveal what his preferences are in given sets of circumstances. The preferences given may be between two or more goods, but where more than two goods exist, money is taken to represent all other goods for ease of graphical analysis, as in Fig. 172.

If a consumer decides that he prefers a combination of money (OM1) and good X (OX1), he will be at point a on the BUDGET LINE (or relative price line) MX. If good X becomes cheaper, so more can be had, his real income increases and he can move to budget line MX2. The combination of goods the consumer prefers is now at, say, b.

However, not all the change is due to increasing real income caused by the fall in the price of good X. Some of it is due to the substitution of the now cheaper good X for others, and this effect is always positive, that is, it is not possible to purchase less of the now cheaper good X after the change to MX2, than when on the budget line MX.

If the consumer's new configuration of goods at b is reduced proportionately, by introducing a hypothetical decrease in income in the form of an inward parallel shift of the budget line to position M2 X3, then the consumer will choose a new position, say, point c; the SUBSTITUTION EFFECT is from X1 to X5, while X5 to X4 is the INCOME EFFECT. See CONSUMER EQUILIBRIUM, INDIFFERENCE CURVE, PRICE EFFECT.

Collins Dictionary of Economics, 4th ed. © C. Pass, B. Lowes, L. Davies 2005
References in periodicals archive ?
A more interesting interpretation of revealed preference theory is that its assumptions and axioms provide a normative theory of what a rational agent should choose given what she does choose.
Revealed preference theory bracketed the problem of determining what sort of observable would indicate a greater quantity of utility, by instead assuming that well-being or utility was identical with (and fully revealed in) actual choice (Robbins 1932: 139; Samuelson 1938).
Richter, "Revealed preference theory," Econometrica, vol.
The epistemological questions have been so persistent that prominent theorists such as Samuelson (revealed preference theory), Friedman (instrumentalism) and Simon (bounded rationality) have seen fit to write on this issue.
[11] Richter, M., 1966, "Revealed preference theory," Econometrica, 34, pp.
Revealed preference theory arose in the context of the theory of the consumer.
(34) Subsequently, other authors have extended revealed preference theory. (35)
Amartya Sen has argued that revealed preference theory does not succeed in eliminating psychology from the concept of preference.
This is the prescriptive counterpart of the psychological egoism underlying revealed preference theory. Thus for economic rationality to serve as any guide to specifiable action, it must not only support the dubious behavioral assumption of psychological egoism, but must make the normative case for ethical egoism.
Those who recognize this importance reject the utility analysis of revealed preference theory as ad hoc and tautological because nonconsequential considerations are excluded by definition.
Revealed preference theory shows that any finite set of price and quantity observations satisfying the generalized axiom of revealed preference (GARP) can be rationalized by the constrained maximization of an increasing, continuous, concave utility function (Afriat 1967, 1973; Varian 1982).
In contrast, this paper uses the nonparametric revealed preference theory to directly test the simplest form of the "as if" median voter utility maximization hypothesis without assuming a particular algebraic representation of preferences.