Vera considered Chips and Salsa perfect complements. She had $24 to spend on chips and salsa and she wanted to buy chips and salsa in the exact proportion of two jars of salsa for each bag of corn chips. When the price of salsa was $3 per jar and the price of chips was $2 per bag she bought six jars of salsa and three bags of chips. a) Suppose the price of salsa dropped to $2 per jar. What would happen to Vera’s purchases of chips and salsa? b) In an indifference curve diagram, draw Vera’s budget constraints before and after the price change and illustrate her optimal bundles in the two cases. c) Of the overall increase in her purchases of salsa, what portion is due to a substitution effect? What portion is due to an income effect? Clearly justify your answer. Does your answer depend on whether you use the Slutsky or the Hicks method to separate the substitution effect from the income effect?
Vera considered Chips and Salsa perfect complements. She had $24 to spend on chips and salsa and she wanted to buy chips and salsa in the exact proportion of two jars of salsa for each bag of corn chips. When the
a) Suppose the price of salsa dropped to $2 per jar. What would happen to Vera’s purchases of chips and salsa?
b) In an indifference curve diagram, draw Vera’s budget constraints before and after the price change and illustrate her optimal bundles in the two cases.
c) Of the overall increase in her purchases of salsa, what portion is due to a substitution effect? What portion is due to an income effect? Clearly justify your answer. Does your answer depend on whether you use the Slutsky or the Hicks method to separate the substitution effect from the income effect?
Step by step
Solved in 2 steps with 3 images
