Question

Suppose that the government provides eligible people with food stamps for cheese. Abigail, an eligible individual has an income of $6 and plans to spend it on some combination of cheese and other goods The per unit price of cheese and other goods is $0.25. Sketch the budget line for Abigail, who plans to spend $6 on some combination of cheese and other goods. Add an indifference curve (label it IC1) assuming her optimal combination is 14 units of other goods. (Hint: you have to find the other point on the IC for cheese)
Suppose that the government provides Abigale with a food stamp of 5 units of cheese. Show the effect on the budget line and add a new indifference curve (label it IC2) assuming the optimal combination is now 10 units of other goods. (Hint: you have to find the other point on the IC for cheese)
Analyze the movement of the IC from IC1 to IC2. Does Abigale prefer the food stamp?

Answer 1

Abigail has an income of $6 and plans to spend it on some combination of cheese and other goods. The per unit price of cheese and other good is $0.25. The maximum of any good (cheese or other goods ) Abigail consume is 24 units. At optimal combination she consumes 14 units of other goods. Therefore, after buying 14 units of other goods that is for $3.5, she left with $2.5 and can buy 10 units of cheese.

The IC curve and Budget line for Abigail is given below:

BL1 shows the budget curev for her and IC1 show the Indifference curve. Point A is the optimal combination point.

The government provides her with a food stamp of 5 units of cheese. The food stamps can be used only for cheese. therefore, the maximum consumption of cheese by her can be now 29 units but for other goods the maximum consumption remained same at 24 units. The Budget line shifted from BL1 to BL2 as shown in the graph. The optimal consumption for other good is given as 10 units which cost $2.5. Therefore, she has left with $3.5 to spent on cheese and bought 14 units of cheese so the optimal bundle is 10 units of other good and 19 units of cheese.  

The IC and Budget line shown below:

After food stamp the consumption of other goods fallen. She will be better off after food stamps so she will prefer food stamps.