Question

Question 1

The following are key characteristics of Indifference Curves, EXCEPT:

A. Each indifference curve identifies the combinations of X and Y where the consumer is equaly happy.

B. Indifference curves are convex to the origin because X and Y are assumed to be close substitutes.

C. For any combination of X and Y there is one and only one Indifference Curve.

D. Indifference curves cannot logically cross between them if preferences are well defined.

Question 2

The following are key characteristics of the Optimal Consumer's Allocation, as presented in class, EXCEPT:

Notation:

BC = Budget Constraint

IC= Indifference Curve

MUx = Marginal Utility for x

MUy = Marginal Utility for y

Question 2 options:

A. The optimal allocation (X*, Y*) is the one that attains the highest consumer's utility given a certain budget constraint.

B. On the optimal allocation, the BC makes tangency with the highest attainable IC

C. For any given BC, the optimal allocation for each consumer is unique, due to the assumption of Increasing MU for X & Y.

D. At the optimal allocation the ration of prices (Px/Py) is equal to the ratio of preferences (MUx/MUy) for the consumer.

Question 3

The following are possible effects on the optimal allocation coming from an Increase in the Price of good X, EXCEPT:

Question 3 options:

A. The Budget Constraint will decline, with same interception on Y but lower interception on X.

B. The maximum level of utility attainable will likely decrease.

C. Income effect will lead to a contraction of X and Y if they are both normal goods.

D. Substitution Effect will lead to a decline of X and Y, regardless of what type of goods they are.

Question 4

The following are true statements about the income and substitution effect and the optimal consumer's allocation, EXCEPT:

Question 4 options:

	A. For a given increase in Px, the Income Effect measures the change in optimal consumer's allocation (x*, y*) coming from a simulated decrease in income, assuming prices stay the same.
	B. For a given increase in Px, the Substitution Effect measures the change in optimal consumer's allocation (x*, y*) coming from a simulated change in budget constraint such that prices are changing, but the level of utility attained (U1) is the same.
	C. If two goods are close Substitutes, then Substitution Effect is expected to be stronger than Income Effect.
	D. Income Effect will always be stronger than Substitution Effect as long as (X,Y) are normal goods.

Answer 1

Q1. (b) is false.Indifference cuves are convex to the origin becuase the marginal rate of substitution diminshes as consumption of one good is increased.

Q2. (c) is false. The optimal allocation is unique due to convex indifference curves which in turn is due to diminishing marginal rate of substitution.

Q3. (d) is false. Substitution effect will lead to a decline in X but an increase in Y because under substition effect utility is kept constant, So to keep utility constant, Y should increase when X decreases.

Q4. (d) is false.