econ 2010 assignment 2

Homer consumes beer and donuts. Beer is an inferior good. One day the price of donuts falls.

1. Use a graph to show what happens to Homer's budget constraint.

2. Use the same graph to show what happens to Homer’s beer consumption.

3. Does Homer end up drinking more or less beer than before? Justify your answer carefully.

Suppose that when theprice of X goes up, you respond byconsuming less Y .

1. Illustrate the income and substitution effects of a rise in the price of X. How does your graph illustrate the information in italics above?

2. Looking at the effects on your consumption of Y , which is bigger — the income effect or the substitution effect? Carefully explain how you can tell.

The only two goods you consume are X and Y. X is a Giffen good. Suppose that the price of X goes up.

1. Illustrate the substitution and income effects.

2. True or False: Your consumption of Y must go down. Justify your answer.

The only goods you consume are eggs and wine. On Monday, you consume basket M. On Tuesday, the price of eggs goes up and you consume basket T. On Wednesday, the price of eggs returns to its Monday level and the price of wine goes up. On Wednesday, you consume basket W and you are exactly as happy as you were on Tuesday.

1. Draw the three budget lines, along with the three optimal points. How do you show they are optimal points?

2. How do you show on your graph that you are equally happy on Tuesday and Wednesday?

3. True or False: If you consume fewer eggs on Wednesday than on Monday, then eggs cannot possibly be a Giffen good.