Question

In: Economics

Suppose there are two goods in an economy, X and Y. Prices of these goods are...

Suppose there are two goods in an economy, X and Y. Prices of these goods are Px and Py, respectively. The income of the only agent (consumer) in the economy is I. Using this information, answer the following questions:

a. Write down the budget constraint of the consumer. Draw it on a graph and label the critical points accordingly. Provide a verbal explanation of why all income is spent, mentioning the underlying assumption for this outcome.

b. Define substitution and income effects.

c. Assuming both goods are normal, suppose Px goes down due to an excess supply of good X, whereas Py is held constant. Drawing a graph, show the substitution and income effects as well as the total effect of this price reduction. Explain the change in demands for the goods using the relation, where MU represents marginal utility. Be precise in labeling your graph and its step-by step explanation.

MUx / Px = MUy / Py

d. Looking at the sign of the total effect, discuss the relation between the price of a normal good and its demand.

e. Now suppose X is an inferior good. How does your answer to part (c) change? Drawing a new graph, comment on the signs of the substitution and income effects.

f. What is Giffen paradox? Drawing a new graph, discuss it in terms of the magnitudes of the substitution and income effects. How is the demand for a Giffen good sloped? Why? Provide the necessary definitions and explain it using the signs and magnitudes of substitution and income effects.

Solutions

Expert Solution

Rahul Sunny answered 7 months ago
Next > < Previous

Related Solutions

Suppose that there are two goods, X and Y. The utility function is ?(?, ?) =...
Suppose that there are two goods, X and Y. The utility function is ?(?, ?) = 5?2 ?. The price of Y is $2 per unit, and the price of X is P. Income is $2,400. A.) Derive the demand curve and state the law of demand in relation to your product or service. B.) ? = 800 − 10?0.5 . Calculate elasticity of demand when Q=100, Is the good elastic? C.) ? = 800 − 10?0.5 − 0.5?. Calculate...
Suppose that there are two goods, X and Y. The utility function is ?(?, ?) =...
Suppose that there are two goods, X and Y. The utility function is ?(?, ?) = 5?2 ?. The price of Y is $2 per unit, and the price of X is P. Income is $2,400. A.) Derive the demand curve and state the law of demand in relation to your product or service. B.) ? = 800 − 10?0.5 . Calculate elasticity of demand when Q=100, Is the good elastic? C.) ? = 800 − 10?0.5 − 0.5?. Calculate...
4: There is an exchange economy with two agents, A, B, and two goods, x, y....
4: There is an exchange economy with two agents, A, B, and two goods, x, y. A's endowment is x = 6, y = 4, and B's endowment is x = 4, y = 6. (a) A has the utility function u(x, y) = x + y and B u(x, y) = xy. Find a competitive equilibrium allocation (CEA) and associated equilibrium prices. What difference would it make if A's endowment is x = 3, y = 1, and B's...
Consider an exchange economy with two individuals, A and B, and two goods, x and y....
Consider an exchange economy with two individuals, A and B, and two goods, x and y. Individual A has utility function UA(xA; yA) = xAyA, and individual B has utility function UB(xB; yB) = xByB. If there are 10 units of x and 10 units of y in the market, what is the equation of the contract curve? Group of answer choices yA = 0.5xA yA = 2xA yA = 5xA yA = xA
Consider an economy in which an individual (A) is consuming two goods (X and Y). The...
Consider an economy in which an individual (A) is consuming two goods (X and Y). The government is considering two alternative taxation policies: (a) taxing good X; (b) putting a lump- sum tax on A. By using a graphical analysis, compare these two taxation policies in terms of “excess burden”.
Consider an economy in which an individual (A) is consuming two goods (X and Y). The...
Consider an economy in which an individual (A) is consuming two goods (X and Y). The government is considering two alternative taxation policies: (a) taxing good X; (b) putting a lumpsum tax on A. By using a graphical analysis, compare these two taxation policies in terms of “excess burden”.
Consider an economy in which an individual (A) is consuming two goods (X and Y). The...
Consider an economy in which an individual (A) is consuming two goods (X and Y). The government is considering two alternative taxation policies: (a) taxing good X; (b) putting a lumpsum tax on A. By using a graphical analysis, compare these two taxation policies in terms of “excess burden”
Suppose there are two consumers, A and B, and two goods, X and Y. The consumers...
Suppose there are two consumers, A and B, and two goods, X and Y. The consumers have the following initial endowments and utility functions: W X A = 2 W Y A = 9 U A ( X , Y ) = X 1 3 Y 2 3 W X B = 6 W Y B = 2 U B ( X , Y ) = 3 X + 4 Y Suppose the price of X is PX=2 and the...
Suppose that there are two individuals (X and Y) and two goods (Food and Clothes) in...
Suppose that there are two individuals (X and Y) and two goods (Food and Clothes) in an economy (Food is in horizatal axes). The initial endowment of X is 50 units of Food and 70 units of of Clothes and initial endowment of Y is 60 units of Food and 40 units of Clothes. Price of Food is $ 96 and price of Clothes is $ 32 . A) What is the price ratio (slope of price line)? B) What...
Consider an economy with two goods, x and y, and two agents, Anna and Bert. Anna...
Consider an economy with two goods, x and y, and two agents, Anna and Bert. Anna and Bert wish to trade with one another in order to maximize their individual utilities. We will consider how their trading decisions depend on the initial endowments of X and Y and on their utility functions. Suppose Anna is endowed with one unit of X and half a unit of Y and Bert is endowed with one unit of X and one and a...
ADVERTISEMENT
Subjects
ADVERTISEMENT
Latest Questions
ADVERTISEMENT