Question

Brigitte purchases two goods: gummy bears and M&M’s. She has a diminishing marginal rate of substitution of gummy bears for M&M’s. Let x denote the amount of gummy bears purchased and y the amount of M&M’s purchased. Suppose the price of gummy bears decreases from P x 1 to P x 2 . On a clearly labeled graph, illustrate the income and substitution effects of the price change on the consumption of gummy bears. Do so for each of the following cases:

a. Case 1: Gummy bears and M&M’s are normal goods.

b. Case 2: The income elasticity of demand for gummy bears is zero. M&M’s is a normal good.

c. Case 3: Gummy bears are inferior goods, but not Giffen goods. M&M’s is a normal good.

d. Case 4: Gummy bears are Giffen goods. M&M’s is a normal good.

Answer 1

Brigette purchases two goods

1.Gummy Bear-has diminishing MR for M&M'S.and assume It price down From Px1 to Px2.

2.M&M's

Income and substitution effects The income effect expresses the impact of increased purchasing power on consumption, while the substitution effect describes how consumption is impacted by decrease in preference or changing relative income and prices.

Case1:In normal goods

normal goods, the income effect and the substitution effect both work in the same direction; a decrease in the relative price of the good will result in an increase in quantity demanded both because the good is now cheaper than substitute goods, Dimnishing cost will not reduce the quantity demanded.

Case2:Zero Elasticity

Income Elasticity is zero when there is no change in quantity demanded with respect to change in income.

Case:3 Income and substitution effects For the Inferioe goods over the Normal Goods.

the income effect dominates the substitution effect and leads consumers to purchase more of a good, and less of substitute goods, when the price rises

Case 4: The substitution effect and income effect of a price increase for a giffen good

In the Giffen good case, even though the price has increased, consumption of x has gone up. The demand curve will be upward sloping regardless of the price effects the demand not diminishing for the product that does not have the adverse effects.

Marginal Rate of Substution In Economics says that the consumer prefer and willing to pay for the goods in relation to another good.

Calculation for the Marginal rate of substitution is

​∣MRSxy​∣=dx/dy​=MUy​/MUx

​​where:x,y=two different goods

dxdy​=derivative of y with respect to x

MU=marginal utility of good x, y​

Marginal Utility is derived from the utility Function.

Mariginal rate is substition is the absolute value of the SLOPE OF THE INDIFFERENCE CURVE

Marginal Rate of Substition is How many product of y the consumer giving up to have the one quantity of product x.So how many quantities is consumer substituting to have the one quantity of other product in relation to that product .