Question

Policymakers might be interested in knowing how a change in the legal constraints facing consumers and firms would affect individual welfares. Suppose initially a consumer is consuming market basket A. If a certain policy is adopted, this consumer will end up consuming market basket B. Knowing what these two market baskets are, and nothing else, can you say if the consumer is better or worse off from the change in their consumption? 1. yes 2. no

Answer 1

The correct option for this question must be false. Because we know nothing about the chance in prices and income of the consumer due to this legal constraints. If we knew about the change in prices and income of the consumer than we would have been able predict whether the consumer is better off or worse off by consuming basket B.

Now let's understand why this would be the case that in absence of changes prices and income we can't predict what happens to consumer welfare. Because we don't know about the change in consumers purchasing power. If it had been the case that consumer can still afford basket A but chooses to consume basket B, then we would have been sure that consumer is better off consuming basket B, because if it wasn't the then he would have continued to consume Basket A.

And we also can't say whether consumer is worse off or not. Because for this we need to see how much does two market baskets cost to consumer. If it had been the case that market basket B is costs less than market basket A then we would have been sure about predicting that consumer is worse off. Because previously he was consuming the market basket A and now he is consuming market basket B, because he can't afford market basket A anymore then it must be the case that now he is not consuming the best bundle. So that's why he must be worse off.

But again we know nothing else except for what these two market baskets are so we can't say whether the consumer is better off or worse off by consuming basket B.