ECO2103 Tutorial 5

1105 Words Jul 8th, 2015 5 Pages
ECO2103 Principles of Microeconomics

Tutorial 5

Question One
a) You are studying with a friend and your friend says "A budget line shows the various combinations of two goods that can be purchased with the buyer's income at current prices." Is your friend's assessment correct or not?
b) How is a budget line similar to a production possibilities frontier? How do they differ?
c) Why budget line has a negative slope? What does the slope of the budget line equal?
d) What is an indifference curve?
e) Why do consumers prefer higher indifference curves (farther to the right) to lower indifference curves?
f) In an indifference curve/budget line framework, how does a consumer decide which of all possible combinations of goods to purchase?
g)
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The price of a movie is $15.
i) Along budget line BL1, what is the price of a dinner? ii) What combination of dinners and movies will George select along budget line BL1? iii) Budget line BL2 represents a change in the price of dinners from that along BL1. What is the new price of dinners along this budget line? iv) What combination of dinners and movies will George select along budget line BL2?
v) Use the information in this problem to give two points on George's demand curve for dinners.

b) Olivia's income is $216 a year and she spends all of it on music CDs and movies on DVDs. The price of a music CD is $18 and the price of a DVD is $18.
i) Draw a graph of Olivia's budget line (with CDs on the horizontal axis). What is the slope of Olivia's budget line?

ii) What quantities of CDs and DVDs does Olivia buy? Explain your solution. iii) What is Olivia's marginal rate of substitution at the point at which she consumes? Explain.

c) Record companies, faced with the growing competitions from digital music download services, lower the price of a music CD from $18.00 to $13.50. The price of a DVD is $18. Olivia's income is $216 a year and she spends all of it on music CDs and movies on DVDs.
i) Draw a graph of Olivia's budget line (with CDs on the horizontal axis). What is the slope of Olivia's budget line?

The figure above illustrates Olivia's preferences. ii) Given the price of a CD, the price of

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