3) Consider the utility function U(x1,x2) = Vx1x2 with a MRS = Assume the price of good 2 is normalized to one and the price of good 1 is p and income is y so the budget constraint is given by pæ1+¤2 = y. a). Solve for æ1(p, y), x2(p, y) and U (x1(p, y), x2(p, y)). b) Now suppose y = 10 and p =1. Draw your optimal point by showing the tangency of your indifference curve and budget constraint. c) Consider an increase in p from 1 to 2. Using the Slutsky Equation, solve for the substitution effect, the income effect and the total effect of the change in p. d) Draw the results you get in c) on the graph you drew in b) making sure to label all of the changes correctly, outlining each step (substitution effect, income effect, total effect). e) Solve for the change in your utility level , U(xi(p, y), x2(p, y)) and the demand for æ1(p, y) in both nominal and percentage terms? Are they the same or different? Can you provide some intuition for the result?

3) Consider the utility function U(x1,x2) = Vx1x2 with a MRS = Assume the price of good 2 is normalized to one and the price of good 1 is p and income is y so the budget constraint is given by pæ1+¤2 = y. a). Solve for æ1(p, y), x2(p, y) and U (x1(p, y), x2(p, y)). b) Now suppose y = 10 and p =1. Draw your optimal point by showing the tangency of your indifference curve and budget constraint. c) Consider an increase in p from 1 to 2. Using the Slutsky Equation, solve for the substitution effect, the income effect and the total effect of the change in p. d) Draw the results you get in c) on the graph you drew in b) making sure to label all of the changes correctly, outlining each step (substitution effect, income effect, total effect). e) Solve for the change in your utility level , U(xi(p, y), x2(p, y)) and the demand for æ1(p, y) in both nominal and percentage terms? Are they the same or different? Can you provide some intuition for the result?

ENGR.ECONOMIC ANALYSIS

14th Edition

ISBN:9780190931919

Author:NEWNAN

Publisher:NEWNAN

Chapter1: Making Economics Decisions

Section: Chapter Questions

Problem 1QTC

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