734 Words3 Pages

AEB4334 Assignment 1 Joe Taylor
1) . Use the following graph showing a consumer's budget line and some indifference curves to answer the following questions (a through f).
The consumer's income is $600.
a) What is the price of Good X? What is the price of Good Y? We know the income of consumer is $600, so if we look at the intercept of the demand function, we see that the consumer could purchase 30 units of Y and spend all of the income. This being the case$600/30 indicates that the cost of good Y is $20 and the cost of good X, $600/40, is equal to $15.
b) Given the consumer’s income of $600, what is the highest level of utility the consumer can achieve? Explain.
The highest level of utility can be achieved at the point where the consumer demand line is tangent to IC curve ii. It is the point that represents the highest combination of goods that lies on the highest indifference curve within the budget line of the consumer.
c) If the consumer is making an optimal choice, how many units of Good X should he or she consume and how many units of Good Y should he or she consume?
Why? Explain your answer.
The consumer should pick a combination of goods that gives the consumer the same marginal utility per dollar spent for both good X and Y. This is the point where the budget line is tangent to IC curve ii. At this point, the consumer should consume 20 units of good X and 15 units of good Y.
d) At the optimal consumption bundle, what is the Marginal Rate of Substitution?
Explain how you found this answer. Interpret the meaning of the Marginal Rate of Substitution at this bundle.
At the optimal consumption bundle, the marginal rate of substitution is 30/40=3/4=.75
On IC curve ii, where the budget line is tangent to it, you follow the line to both axis. You can interpret the MRS as the consumer willing to give up 3 units

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