Andrew's utility function is U(x₁,x₂)=xx₂. Every week he has 5 units of good 1 and 15 units of good 2 as endowment, and he can buy or sell good 1 at the price p₁ = 1 and good 2 at the price of p, 1 in the market. He does not have any other income source. Andrew regularly brings his endowment to market and trades to his optimal consumption bundle. One week, Andrew brought his usual endowment to market only to learn that the price of good I had increased to p₁ = 5, while the price of good 2 remained at p₂ = 1. Page 8 24. Which of the following statements is correct about the substitution effect due to this price change? A) The substitution effect decreases the demand for good 1 by 1 unit. B) The substitution effect decreases the demand for good 1 by 3 units. C) The substitution effect decreases the demand for good 1 by 6 units. D) The substitution effect increases the demand for good 2 by 10 units. E) The substitution effect increases the demand for good 2 by 20 units.
Andrew's utility function is U(x₁,x₂)=xx₂. Every week he has 5 units of good 1 and 15 units of good 2 as endowment, and he can buy or sell good 1 at the price p₁ = 1 and good 2 at the price of p, 1 in the market. He does not have any other income source. Andrew regularly brings his endowment to market and trades to his optimal consumption bundle. One week, Andrew brought his usual endowment to market only to learn that the price of good I had increased to p₁ = 5, while the price of good 2 remained at p₂ = 1. Page 8 24. Which of the following statements is correct about the substitution effect due to this price change? A) The substitution effect decreases the demand for good 1 by 1 unit. B) The substitution effect decreases the demand for good 1 by 3 units. C) The substitution effect decreases the demand for good 1 by 6 units. D) The substitution effect increases the demand for good 2 by 10 units. E) The substitution effect increases the demand for good 2 by 20 units.
Chapter3: Preferences And Utility
Section: Chapter Questions
Problem 3.15P
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Transcribed Image Text:Use the following to answer questions 24-25:
Andrew's utility function is U(x₁,x₂)=x₁x₂. Every week he has 5 units of good 1 and 15 units
of good 2 as endowment, and he can buy or sell good 1 at the price p₁=1 and good 2 at the
price of p₁=1 in the market. He does not have any other income source. Andrew regularly
brings his endowment to market and trades to his optimal consumption bundle. One week,
Andrew brought his usual endowment to market only to learn that the price of good 1 had
increased to p₁ = 5, while the price of good 2 remained at p₂ = 1.
Page 8
24. Which of the following statements is correct about the substitution effect due to this price
change?
A) The substitution effect decreases the demand for good 1 by 1 unit.
B) The substitution effect decreases the demand for good 1 by 3 units.
C) The substitution effect decreases the demand for good 1 by 6 units.
D) The substitution effect increases the demand for good 2 by 10 units.
E) The substitution effect increases the demand for good 2 by 20 units.
25. Which of the following statements is correct about the endowment income effect due to
this price change?
A) The endowment income effect increases the demand for good 1 by 2 units.
B) The endowment income effect increases the demand for good 1 by 4 units.
C) The endowment income effect increases the demand for good 1 by 10 units.
D) The endowment income effect decreases the demand for good 2 by 10 units.
E) The endowment income effect decreases the demand for good 2 by 15 units.
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