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Q1 Miriam is a college student who spends all of her weekly allowance of S100 (income) on entertainment (X) and health food (Y). P.-S10, Py = $5. and Miriam is originally in equilibrium at point A on the graph below. Ia. Write down the equation for Miriam's weekly budget constraint and label the intersections of the constraint line on the X-axis and on the Y-axis. Health Food (Y) Yi Entertainment (X) Question I continues on the next page: Suppose the price of health food doubles (Py increases from $5 to $10 and Px remains constant at S10). Follow the instructions below (from 1b to le) and adjust the graph accordingly. 1b. Draw the new budget line and label the intersections on X-axis and on Y-axis. Ic. Draw a new indifference curve labeled U2, and indicate Miriam's new equilibrium. Label the new equilibrium point and indicate the quantities of entertainment and health food as X and Y2. 1d. Identify the substitution effect and income effect associated with moving from point A to point C. Label the intermediate point B. Assume Miriam regards both goods as normal goods. Substitution effect: Income effect: from from to le. What is the values of marginal rates of substitution (MUx/MUY) at points A and C? MUx/MUY at point A = MUX/MUY at point C = Miriam persuades her parents to double her weekly allowance because the price of health food has doubled. Follow the instruction below (from If to li) and adjust the graph accordingly. If. Draw the appropriate budget line and label the intersections on X-axis and on Y-axis. 1g. Does this adjustment restore Miriam's original level of utility? If not, draw a new indifference curve that shows the level of utility she achieves with the doubled allowance. Label the new indifference curve Us and label Miriam's equilibrium as point M. Th. Is there a substitution effect associated with moving from point below with the labels on the graph. to point M? If yes, fill the blanks Substitution effect: from li. Is there an income effect associated with moving from point below with the labels on the graph. to point M? If yes, fill in the blanks Income effect: from to

Answer 1

Answer)

Budget constraint is written as:

P_x(X) + P_y(Y) = M

Where,

P_x   = price of good-x

P_y = Price of good-y

M = Income

Budget constraint is given as:

10x + 5Y = 100

20 A Y1 U1 X1 10 Entertainment Health food

(1b, 1c..)

As the price of good x has increasd to $10.So the amount of good x that the individual can afford is 10 units (100/10).

20 A Y2 В U1 X2 10 Entertainment Health food 10

(1d.)

Substitution effect = from point A to Point B

Income effect = From point B to point C

(1e.)

At point A ,

MRS = MU_x/ MU_y = ratio of price of goods = 10/5 = 2

Similarly, at point C,

MU_x / MU_y = 10/10 = 1