James's preferences over cake, c, and money, m, can be represented by the utility function u (c, m) = c + m + µ (c − rc) + µ (m − rm) where rc is his cake reference point, rm is his money reference point, and the function µ (·) is defined as µ (z) = z , z ≥ 0 and λz, z < 0 where λ > 0. 1. If his reference point is the status quo (that is, his initial endowment), what is the maximum price Sam would be willing to pay to buy a cake? 2. If his reference point is the status quo, what is the minimum price Sam would be willing to accept to sell a cake he already owned?
James's preferences over cake, c, and money, m, can be represented by the utility function u (c, m) = c + m + µ (c − rc) + µ (m − rm) where rc is his cake reference point, rm is his money reference point, and the function µ (·) is defined as µ (z) = z , z ≥ 0 and λz, z < 0 where λ > 0. 1. If his reference point is the status quo (that is, his initial endowment), what is the maximum price Sam would be willing to pay to buy a cake? 2. If his reference point is the status quo, what is the minimum price Sam would be willing to accept to sell a cake he already owned?
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
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Question
James's preferences over cake, c, and money, m, can be represented by the utility function
u (c, m) = c + m + µ (c − rc) + µ (m − rm)
where rc is his cake reference point, rm is his money reference point, and the function µ (·) is
defined as µ (z) = z , z ≥ 0 and λz, z < 0 where λ > 0.
1. If his reference point is the status quo (that is, his initial endowment), what is the
maximum
2. If his reference point is the status quo, what is the minimum price Sam would be willing
to accept to sell a cake he already owned?
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