ECON100 Tutorial 07 PDF

Preview

Summary

ECON100 Tutorial Seven – Consumers, Choice and Demand Reading: GKBM Chapter 22. Section A: Theory Questions (optional) 1. What is utility? Why does marginal utility tend to diminish? 2. What is the marginal rate of substitution? Why does the marginal rate of substitution change along an indifference...

Description

ECON100 Tutorial Seven – Consumers, Choice and Demand Reading: GKBM Chapter 22.

Section A: Theory Questions (optional) 1.

What is utility? Why does marginal utility tend to diminish?

2.

What is the marginal rate of substitution? Why does the marginal rate of substitution change along an indifference curve?

3.

Consider a consumer with standard preferences over two goods, good x and good y. Explain using a diagram why it is not possible for the consumer’s indifference curves to cross.

4.

Consider a budget line defined across two goods, good x and good y. Describe what happens to the budget line in each of the following cases: (i)

The price of good x increases.

(ii)

The price of good x decreases.

(iii) Income increases.

(iv) Both (ii) and (iii) above occur at the same time.

(v)

Consumers are restricted to a maximum purchase of x1 units of good x (to ensure x1 is binding, it must be less than M/Px).

2

Section B: Tutorial Questions 5.

Suppose a consumer is initially in equilibrium buying 10 units of good x. Using a diagram of the consumer choice model, explain whether a price decrease for good x will lead the consumer to buy more of good x or not.

6.

Explain using appropriate diagrams how the demand curve for a good x can be derived from the standard consumer choice model.

3

7.

Using the income and substitution effects, explain why the demand for a normal good is likely to be relatively elastic compared to the demand for an inferior good.

4

Section C: Extension Question (optional) 8.

You own a dairy that sells cokes and donuts. Both are priced initially at $2 per unit. Your customer, Serena, comes into the shop. She has a fixed budget of $40 and asks to buy 10 donuts and 10 cokes (which is her initial equilibrium consumption point, E1). Serena has standard indifference curves. You want to get rid of your donuts, so you offer her a 50 percent discount on donuts on the condition that the discount applies only to additional purchases (ie, purchases of donuts in excess of what she has on the counter already). Is Serena likely to buy more donuts (and give up some coke)? Explain fully.

5...