The initial budget constraint (BC¡) shows the Lacostes' budget constraint when the price of a fancy dinner is $25. At this price, Sam and Teresa would choose to consume eight fancy dinners. Suppose that the price of a fancy dinner increases to $50, shifting their budget constraint to BC2, which represents a new relative price of ten diner breakfasts per fancy dinner. (Hint: The blue line labeled H is parallel to BC2 and tangent to 1 at point Y.) In order to remain as happy as they were before the price increase-that is, to consume at some point on the same indifference curve as they were on initially (I)-the Lacostes' income spent on fancy dinners and breakfast at diners would now have to be $ However, in reality, rather than maintaining their original level of utility, the Lacostes choose the optimal bundle along their new budget constraint. At this point, they are off than before the price change in fancy dinners. On the following table, indicate which point movement represents the substitution effect and income effect for fancy dinners when the price increases From $25 to $50. Then indicate if each effect is positive or negative in this case. Consumption Change Fancy Dinners Represented By... (Quantity of fancy dinners) Positive or Negative Substitution Effect Income Effect n this case, the price increase of fancy dinners causes the Lacostes's real income to Because of the change to Sam and Teresa's real ncome and the direction of the income effect, fancy dinners are for the Lacostes.
The initial budget constraint (BC¡) shows the Lacostes' budget constraint when the price of a fancy dinner is $25. At this price, Sam and Teresa would choose to consume eight fancy dinners. Suppose that the price of a fancy dinner increases to $50, shifting their budget constraint to BC2, which represents a new relative price of ten diner breakfasts per fancy dinner. (Hint: The blue line labeled H is parallel to BC2 and tangent to 1 at point Y.) In order to remain as happy as they were before the price increase-that is, to consume at some point on the same indifference curve as they were on initially (I)-the Lacostes' income spent on fancy dinners and breakfast at diners would now have to be $ However, in reality, rather than maintaining their original level of utility, the Lacostes choose the optimal bundle along their new budget constraint. At this point, they are off than before the price change in fancy dinners. On the following table, indicate which point movement represents the substitution effect and income effect for fancy dinners when the price increases From $25 to $50. Then indicate if each effect is positive or negative in this case. Consumption Change Fancy Dinners Represented By... (Quantity of fancy dinners) Positive or Negative Substitution Effect Income Effect n this case, the price increase of fancy dinners causes the Lacostes's real income to Because of the change to Sam and Teresa's real ncome and the direction of the income effect, fancy dinners are for the Lacostes.
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
Related questions
Question
Transcribed Image Text:Sam and Teresa Lacoste live in Chicago and enjoy going out to fancy restaurants for dinner and to diners for breakfast. On the following diagram, the
purple curves I and I2 represent two of their indifference curves for fancy dinners and diner breakfasts. They have $500 per month available to spend
on eating out. The price of a diner breakfast is always $5. Each labeled point represents the tangency between a budget constraint and the
corresponding indifference curve.
67
60
50
BC,
H.
BC
5 7 8
FANCY DINNERS
DINER BREAKFASTS
Transcribed Image Text:The initial budget constraint (BC1) shows the Lacostes' budget constraint when the price of a fancy dinner is $25. At this price, Sam and Teresa would
choose to consume eight fancy dinners.
Suppose that the price of a fancy dinner increases to $50, shifting their budget constraint to BC2, which represents a new relative price of ten diner
breakfasts per fancy dinner. (Hint: The blue line labeled H is parallel to BC2 and tangent to I1 at point Y.)
In order to remain as happy as they were before the price increase-that is, to consume at some point on the same indifference curve as they were on
initially (I1)-the Lacostes' income spent on fancy dinners and breakfast at diners would now have to be $
However, in reality, rather than
maintaining their original level of utility, the Lacostes choose the optimal bundle along their new budget constraint. At this point, they are
off than before the price change in fancy dinners.
On the following table, indicate which point movement represents the substitution effect and income effect for fancy dinners when the price increases
from $25 to $50. Then indicate if each effect is positive or negative in this case.
Consumption Change
Fancy Dinners
Represented By...
(Quantity of fancy dinners)
Positive or Negative
Substitution Effect
Income Effect
In this case, the price increase of fancy dinners causes the Lacostes's real income to
Because of the change to Sam and Teresa's real
income and the direction of the income effect, fancy dinners are
for the Lacostes.
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