Question

Susana and Javier each spend $24 per week on café lattes and subway trips. When the price of lattes and subway trips (round trip) are each $4, they each buy 3 lattes and take 3 subway trips per week. Suddenly, a café price war breaks out and there just happens also to be a state budget crisis. So, the price of a latte falls to $2, while the price of a subway trip rises to $6. Susana now buys 6 lattes and takes 2 subway trips per week while Javier takes 1 subway trip and buys 9 café lattes.

a. Is Susana better off or worse off after these price changes? Explain.

b. Is Javier better off or worse off after these price changes? Explain.

Answer 1

(a) Initially Susana buys 3 latte and 3 subway trips when Price of subway trip = Price of latte = 4

Now, Susana buys 6 latte and 2 subway trips when Price of subway trip = 6 and Price of latte = 2.

First lets see than whether she can buy her initial choice of 3 each with new Prices. Total cost of Purchasing 3 latte and 3 subway trips with new prices = 3*2 + 6*3 = 24. Hence she can buy can Her old(initial) bundle with the new prices but she didn't choose that. Hence, she considers New bundle of 6 latte and 2 subway trips to give higher utility than 3 latte and 3 subway trips.

Hence, Susana must be better off.

(b)

Initially Javier buys 3 latte and 3 subway trips when Price of subway trip = Price of latte = 4

Now, Javier buys 9 latte and 1 subway trips when Price of subway trip = 6 and Price of latte = 2.

First lets see than whether he can buy her initial choice of 3 each with new Prices. Total cost of Purchasing 3 latte and 3 subway trips with new prices = 3*2 + 6*3 = 24. Hence he can buy can Her old(initial) bundle with the new prices but he didn't choose that. Hence, he considers New bundle of 9 latte and 1 subway trips to give higher utility than 3 latte and 3 subway trips.

Hence Javier must be better off.