Question

Question 21.

Shelley is maximizing utility in her consumption of mansions and Porsches. If the marginal utility from her last purchased mansion is twice the marginal utility from her last purchased Porsche, then we know

A) Shelley buys twice as many mansions as Porsches.

B) Shelley buys twice as many Porsches as mansions.

C) Shelley buys more Porsches than mansions, but we do not know how many more.

D) the price of a mansion is twice the price of a Porsche.

E) the price of a Porsche is twice the price of a mansion.

Answer 1

Answer: D) The price of a mansion is twice the price of a Porsche.

Let the marginal utility from mansion is denoted by MUM ; and the price of mansion is PM.

Let the marginal utility from Porsches is denoted by MUP ; and the price of mansion is PP.

Shelley is maximizing utility in her consumption of mansions and Porsches. Therefor the last amount Shelly spends on these two goods must yield the same amount of extra marginal utility, i.e.,

MUM / PM = MUP / PP

A consumer's decision on purchasing a commodity depends on the marginal utility she gets from purchasing an extra unit of that commodity. The consumer purchases the commodity till the marginal utility of that commodity exceeds the price the consumer is willing to pay for that commodity. When the marginal utility is exactly equal to the price, the consumer is willing to pay for a commodity, the consumer achieves her maximum utility and then stops buying that commodity. So for the last unit of consumption, the marginal utility, the consumer gets from the commodity must be equal to the price of the commodity, the consumer pays. Now, for Shelley, if the marginal utility from her last purchased mansion is twice the marginal utility from her last purchased Porsche, then from the above equation, and marginal utility maximization, we can say that the price of mansion must be twice the price of Porsches.

2MUM / 2PM = MUP / PP

From the above, we see that,

When, MUM is twice the MUP , then PM or the price of mansion is twice the price of Porsches (PM = 2PP).

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