Indifference curve analysis is claimed to be superior to utility analysis because of its closeness to the reality. But, still it is criticised by many economists due to some unrealistic assumptions, it is based upon. Further, Schumpeter says, “The new technique has neither proved anything new, nor has proved anything old, wrong”.
Robertson blamed this analysis by pointing out it as an old wine in a new bottle. Many other economists such as F.H. Knight, Armstrong, Boulding criticised the analysis in several ways. Some of the limitations of this analysis are:
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(i) The indifference curve analysis is utility analysis in a new grab. It has simply substituted new concepts and equations instead of the old ones. The old principle of diminishing marginal utility has been replaced by the new principle of diminishing marginal rate of substitution. The old equation of consumer equilibrium.
MUA/PA = MUB/PB = MUM
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is replaced by a new equation, which says that the consumer is in equilibrium, when the marginal rate of substitution between the two commodities, which is the ratio of their marginal utilities is equal to their price ratio. This is nothing but the reformulation of previous equation in a modified form.
(ii) Indifference curve analysis assumes that consumers are familiar with their preference schedules. But, it is not possible for a consumer to have a complete knowledge of all the combinations of the two commodities, total satisfactions from them, rates of substitutions and total incomes. At best he can tell his preferences in the neighbourhood of his existing position. Moreover, the preferences of this consumer keep changing.
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(iii) This analysis is confined to the case of only two commodities. For covering a large number of commodities, one commodity, say, ‘Y’ has to be taken as a composite commodity (represented by money) such that prices of all the commodities comprising the composite commodities increase or decrease simultaneously and by the same proportion.
This may not happen in reality. It also becomes difficult to isolate the effect of change in price of a particular commodity. For three goods case, we can also use three – dimensional diagram, but, it is difficult to handle. Geometry fails all together for dealing with the situation of more than three goods. In such situation, we may have to fall back upon complicated algebraic methods.
(iv) This analysis assumes rationality of the consumer. In many situations, however, consumer behaves in an irrational and thoughtless manner.
(v) Indifference curve analysis is introspective, as it studies consumer behaviour on the basis of imaginary drawn indifference curves. Further, it is based on weak ordering hypothesis. Thus, consumer is indifferent towards some combinations. Samuelson criticised this analysis, since when a consumer chooses one particular combination, he prefers it over all other combinations Thus, and ‘choice reveals preference’. Samuelson enunciated demand theory from observed consumer behaviour, which is more scientific.
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(vi) This analysis assumes perfect divisibility of the commodities. But, consumer is often faced by lumpy units. So, the continuity of indifference curves is not ensured as assumed by indifference curves analysis, as also large number of very closed placed indifference curves. Further, choices with extreme combinations (too much of commodity ‘X’ and very little of ‘Y’ and vice-versa) are not observed in the real world.
(vii) Indifference curve analysis is micro economic in character. It is not possible to draw indifference curves indicating the choices of a group or a country as a whole. In this respect, utility analysis has an edge over, as it goes by a general opinion based on past experience and observation.
(viii) Indifference curve analysis is not amenable to statistical investigation and empirical research, as the entire analysis is based upon theoretically formulated cross-effect relationships and not upon statistical observations. In view of Samuelsson, indifference curves are imaginary.
(ix) Indifference curve analysis fails to explain consumer behaviour under risk and uncertainty.
Thus, indifference curve analysis is not free from defects of its own. Even some of these defects were appreciated by Hicks, who sought to remove them in his later work ‘A Revision of Demand Theory’ published in 1956. The approach is a considerable improvement over the conventional utility approach and has gained popularity among economists.