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D LiveSessionPrep Problems

1. The document provides a set of practice problems for a live session on consumer theory. It includes 8 problems covering topics like indifference curves, marginal rate of substitution, demand functions, income and price elasticities, substitution and income effects, and consumer choice problems. 2. The first problem asks students to draw indifference curves for 3 utility functions and write down their equations. Subsequent problems involve calculating MRS, demand functions, income-consumption curves, elasticities, and using graphs to analyze the effects of subsidies and price changes on consumer choices. 3. The final two problems present consumer choice scenarios - whether a consumer would join a club that lowers the price of one good, and the values of a parameter

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62 views3 pages

D LiveSessionPrep Problems

1. The document provides a set of practice problems for a live session on consumer theory. It includes 8 problems covering topics like indifference curves, marginal rate of substitution, demand functions, income and price elasticities, substitution and income effects, and consumer choice problems. 2. The first problem asks students to draw indifference curves for 3 utility functions and write down their equations. Subsequent problems involve calculating MRS, demand functions, income-consumption curves, elasticities, and using graphs to analyze the effects of subsidies and price changes on consumer choices. 3. The final two problems present consumer choice scenarios - whether a consumer would join a club that lowers the price of one good, and the values of a parameter

Uploaded by

mohammad.alirizwan06
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd
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Chapter D

Consumer theory

1 Live Session Preparation

1.1 Problem Set

1. For each of the following utility functions, write down the equation
for an indifference curve and then draw some indifference curves

• u( x, y) = xy. [2 marks]
• u( x, y) = x + y. [2 marks]
• u( x, y) = min{ x, y}. [2 marks]

2. Compute the MRS for the following utility functions


√
• u( x, y) = xy. [3 marks]
• u( x, y) = ln x + ln y. [3 marks]
• u( x, y) = 20 + 3( x + y)2 . [3 marks]

3. Consider the utility function u( x, y) = x2 + y2 .

(a) Does this satisfy the property of diminishing MRS? Show alge-
braically and also show by drawing indifference curves.[5 marks]
(b) Show that using the tangency condition (MRS equals price ratio)
would not lead to an optimum in this case. [5 marks]
(c) Show (in a diagram) the possible optimal bundles. [5 marks]

1
EC2066 Microeconomics

4. Consider the quasilinear utility function u( x1 , x2 ) = ln x1 + x2 (this is


linear in x2 , but not in x1 , hence the name ‘quasilinear’). Let p1 and
p2 denote the prices of x1 and x2 respectively. Let m denote income.

(a) Calculate the demand functions. [5 marks]


(b) Draw the income-consumption curve. [5 marks]
(c) Calculate the price-elasticity of demand for each good.
[5 marks]
(d) Calculate the income-elasticity of demand for each good.
[5 marks]

5. Suppose that the government subsidizes housing expenditures of low-


income consumers by providing a dollar-for-dollar subsidy to a con-
sumer’s housing expenditure - i.e. if a consumer spends x of his own
on housing, the government gives him x, making total housing ex-
penditure 2x. Ariel qualifies for this subsidy and spends a total of
500 per month on housing: he spends 250 of his own and receives
a government subsidy of 250. Recently, a new policy has been pro-
posed that would provide each low income consumer with a lump
sum transfer of 250 which can be used for housing or other goods.
Using a graph, demonstrate whether Ariel would prefer the current
program, the proposed program, or would be indifferent between the
two. [8 marks]

6. A consumer has the following utility function:

u( x, y) = min{αx, βy},

where α, β > 0. The price of x is normalised to 1 and the price of y is


p. The consumer’s income is M. Derive the demand functions for x
and y. [8 marks]

7. Suppose u( x, y) = x1/2 y1/2 . Income is M = 72. The price of y is 1 and


the price of x changes from 9 to 4. Calculate the income effect (IE) and
the substitution effect (SE). [10 marks]

8. Consider an economy with two goods: food (F) and music (M). Har-
vey has an income of 800, and the relative price of M is 4. Suppose F
and M are good substitutes (but not perfect substitutes) for Harvey,
and his preferences are such that he optimally consumes 100 units of
M.

2
Chapter D. Consumer theory

(a) Suppose a new club opens which Harvey can join for a fee of
$300. The advantage is that once he joins the club, he can pur-
chase M at a relative price of 1. Would Harvey join the club?
[10 marks]
(b) Suppose Carol has the same income as Harvey, but her prefer-
ences are represented by the utility function

UC ( M, F ) = min(αM, F )

For what values of α would Carol prefer to join the club?


[10 marks]

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