Consider a consumer with the utility function U(X,Y) = xiyi and suppose that the prices of goods and income level are given by px = $2, py = $3 and the income of consumer is I = $880. Suppose now that the price of good X has increased to px = $3. For the optimal consumption quantity of good X, calculate the substitution effect, the income effect, and the total effect of this increase in price of X. (Hint: First calculate the optimal consumption bundle for initial prices. Find the utility that the consumer obtains by consuming that bundle. Then, find the consumption bundle that provides the same utility with the new prices. This will allow you to find the substitution effect. You can use this finding to obtain income effect (total effect = substitution effect + income effect))

Consider a consumer with the utility function U(X,Y) = xiyi and suppose that the prices of goods and income level are given by px = $2, py = $3 and the income of consumer is I = $880. Suppose now that the price of good X has increased to px = $3. For the optimal consumption quantity of good X, calculate the substitution effect, the income effect, and the total effect of this increase in price of X. (Hint: First calculate the optimal consumption bundle for initial prices. Find the utility that the consumer obtains by consuming that bundle. Then, find the consumption bundle that provides the same utility with the new prices. This will allow you to find the substitution effect. You can use this finding to obtain income effect (total effect = substitution effect + income effect))

Principles of Microeconomics

7th Edition

ISBN:9781305156050

Author:N. Gregory Mankiw

Publisher:N. Gregory Mankiw

Chapter21: The Theory Of Consumer Choice

Section: Chapter Questions

Problem 1PA

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