Consumption theory makes extensive use of indifference curves and budget lines to explain consumer decisions. Assume a 2-good case (X and Y) in which a consumer has traditional smooth convex indifference curves. (a) Explain how the consumer's budget set and budget line are obtained if their money budget (M) is £100 and the prices for goods X and Y (PX, PY) are both £5 per unit. Your explanation should also include reference to the market rate of substitution. Provide formulae and graphs where appropriate. (b) Explain how the budget line would change in the case of (i) an increase in the price of good X, and (ii) an increase the money budget. Provide formulae and graphs where appropriate. (c) Given the prices and budget stated in part (a), you are told that the consumer has chosen to spend their budget on 10 units of X and 10 units of Y. Explain how this optimum consumption point is identified using economic analysis. Your explanation should also include reference to the marginal rate of substitution. Provide formulae and graphs where appropriate.

Consumption theory makes extensive use of indifference curves and budget lines to explain consumer decisions. Assume a 2-good case (X and Y) in which a consumer has traditional smooth convex indifference curves. (a) Explain how the consumer's budget set and budget line are obtained if their money budget (M) is £100 and the prices for goods X and Y (PX, PY) are both £5 per unit. Your explanation should also include reference to the market rate of substitution. Provide formulae and graphs where appropriate. (b) Explain how the budget line would change in the case of (i) an increase in the price of good X, and (ii) an increase the money budget. Provide formulae and graphs where appropriate. (c) Given the prices and budget stated in part (a), you are told that the consumer has chosen to spend their budget on 10 units of X and 10 units of Y. Explain how this optimum consumption point is identified using economic analysis. Your explanation should also include reference to the marginal rate of substitution. Provide formulae and graphs where appropriate.

ENGR.ECONOMIC ANALYSIS

14th Edition

ISBN:9780190931919

Author:NEWNAN

Publisher:NEWNAN

Chapter1: Making Economics Decisions

Section: Chapter Questions

Problem 1QTC

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