Unit 3 Doing the best you can: Scarcity, wellbeing, and working hours

Question 1

Budget constraint

Answer 1

Px . x + Py . y = income

Question 2

Price ratio

Answer 2

Px : Py
- number of good y you have to give up to get 1 more good x

Question 3

MRS

Answer 3

amount of good Y consumer willing to give up to get 1 more of good x

Question 4

Properties of consumer preferences (ICs)

Answer 4

1. preferences are complete - otherwise couldn’t sketch the ICs
2. Preferences are transitive - prefer A to B and B to C, then A preferred to C - why ICs can’t cross
3. preferences are continuous - if x is preferred to y, then bundles close to x are preferred to bundles close to y - allows ICs to be smooth continuous functions
4. Preferences are monotonic (more the better) - if B contains more of one good than A, w/o less of the other, B is preferred to A
5. Preferences are convex (to origin) - MRS is high initially and falls as consumers earn more of good x

Question 5

Difference between MRS and MRT

Answer 5

• MRS is the tradeoff one is willing to make
• MRT is the tradeoff someone is constrained to make
• when MRS < MRT, more of x could be transformed into y
  when MRS > MRT, less of x could be transformed into y

Question 6

Hicksian decomposition

Answer 6

• separating the income and substitution effects due to a price change

Question 7

Indifference curve for a useless good

Answer 7

• horizontal line
• moves upwards

Question 8

IC for garbage goods

Answer 8

• if we want the consumer to take more kitty litter, need to compensate her

Question 9

IC for perfect substitutes

Answer 9

• linear equations

Question 10

IC for perfect complements

Answer 10

• L shaped to reflect how consuming more of one good w/o the other doesn’t increase utility