Question

In problem set one, part f, a person with income Y = $10 and prices for goods F and B of PF = $2 and PB = $1 had budget line shown in red below. The person was given a $20 gift card that could only be used to purchase good F (i.e., not used to purchase any B). The gift card changed to person’s budget constraint to look like the green kinked budget line shown in the graph below.

Now suppose that the person was given $20 in cash, instead of the $20 gift card. Show the budget constraint with the $20 cash as compared to the green “gift card” budget line. Next, use indifference curves to illustrate a case where the person prefers the $20 cash compared to the $20 gift card. Clearly illustrate the indifference curves with your explanation.

  

Answer 1