Question

ZOOM Page 2 of 2 D. Consumer Decision Making Total Utility Candy Total Bananas Utility 1 50 40 2 94 2 76 132 3 106 4 162 4 128 5 182 5 138 1. Candy costs $2, bananas cost S. What is the utility maximizing quantity of candy and bananas to purchase, if you have an $8 budget? 2. I offer you the option to use your $8 to buy 3 pieces of candy and 2 bananas (yay candy!) Why do you turn me down in favor of the bundle you picked above? 3. Draw a sample indifference curve and budget constraint for candy and bananas, with candy on the x-axis. Label the optimal point A. 4. Illustrate what happens when the price of candy goes up. Label the new optimal point C 5. Isolate and clearly label the substitution and income effects of the price change using a 3rd budget line and its tangency labeled point B. 6. According to your graph, is candy a normal or inferior good? How can you tell?

Answer 1

Price of candy = $2

Price of banana = $1

Income = $8

1) Consumption bundle can be = (Candy, Banana) = (1,6), (2,4), (3,2) ,(4,0)

First bundle is not possible as maximum 5 units can be consumed.

Second bundle would give us the utility of 94 + 128 = 222

Third bundle would give us 132 + 76 = 208

Forth bundle is also not possible as atleast 1 units is consumed both goods.

Thus second bundle would give which consume 2 units of candy and 4 units of banana are consumed.

2) If 3 candy and 2 banana are consumed, I have already calculated the utility from this consumption bundle which is 208 and is less than the utility calculated in part above. Thus I will not consume this bundle as this gives less utility.

3)
Bongra Conday

4) When price of candy rises, consumption of candy falls to unit X.

Covtyn A Bonona Jr

5) Initial consumption is at point A. When price falls, consumption changes to point C as price of candy rises, consumer consumes more banana and less candy. When we draw a budget line parllel to initial line named as A'B' and consumer shifts to point B. The distance from A to B is income effect and B to C is substitution effect.

A T Substalidtion Ettect Benora Incorne Efert

6) Candy is a normal good as when price of candy rises, consumption falls.