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Consider a simple economy with two goods, food and clothing, and two consumers, A and B....

Consider a simple economy with two goods, food and clothing, and two consumers, A and B. For a given initial endowment, when the ratio of food to clothing prices in an economy is 3/1, A wants to sell 3 units of clothing while B wants to sell 2 units of food. Is PF/PC = 3 an equilibrium price ratio?(Yes or No)

If so, explain why. If not, state in which direction it will tend to change.(Increase, Decrease or No change)

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Answer #1

No P​​​​​​F​​​​​/P​​​​​​C = 3 is not an equilibrium price.

The ratio of food is to clothing is 3/1 . Which means the price of one unit of food is equal to 3 units of clothing.

A wants to sell 3 units of clothing while B wants to sell 2 units of food. It means A would sel 3 units of clothing and buy 2 units of food.

At the given price ratio, PF/PC = 3. It means that A would get $3 for selling 3 units of clothing but then would buy only 1 unit of food with this $3.

The market does not clear at this price as B wants to sell 2 units of food while A can only buy 1 unit of food.

The price is therefore have to fall in order to reach at equilibrium price.

Ans - a) NO

b) decrease

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