ENGR.ECONOMIC ANALYSIS
14th Edition
ISBN: 9780190931919
Author: NEWNAN
Publisher: Oxford University Press
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Transcribed Image Text:21. Alfred's preferences are described by the following utility function U(X, Y) = 5X + 6Y,
where the prices and income are Px = 3; Py = 5; M = 90.
(a) What type of preferences does Alfred have and are they homothetic and/or
quasilinear?
(b) What will be Alfred's optimal bundle? Illustrate this in a diagram, with good X
measured on the horizontal axis, and explain your answer.
Transcribed Image Text:(c) If Alfred's income increases to M = 120 and the price of good X is now Px = 5
(with the price of good Y unchanged), what will Alfred do? Illustrate this in a
diagram and explain your answer.
Now consider a different utility maximising consumer, Cherrin, who does not have a
linear utility function, but instead has strictly convex preferences. At the optimum
bundle of (A*, B*), good A has a negative income elasticity of demand and good B has a
positive income elasticity of demand.
(d) If Cherrin's utility function was the same as Alfred's U (A, B) = 5A + 6B, and she
faced the same prices, such that PA = 3; PB = 5; what would her Engel curve now
look like? Explain your answer.
(e) Return to the original scenario for Cherrin, where she has strictly convex
preferences and where good A has a negative income elasticity of demand and
good B has a positive income elasticity of demand. If the price of good A increased,
illustrate using a diagram and explain what would happen to Cherrin's consumption
of A and B due to the income and substitution effects. Make sure you are clear
about any assumption(s) you make.
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