Question

1. Consider a compensated (Hicksian) demand function. Which of the following statements is correct about a demand curve graphed from this demand function?

	a.	Along this demand curve, the level of utility is held constant and the level of income changes. Consequently, movements along this demand curve illustrate only substitution effects of price changes.
	b.	Along this demand curve, the level of utility changes and the level of income is held constant. Consequently, movements along this demand curve include both substitution and income effects of price changes
	c.	Along this demand curve, both the level of income and utility are held constant. Consequently, movements along this demand curve illustrate only substitution effects.
	d.	Along this demand curve, both the level of income and utility change. Consequently, movements along this demand curve include both substitution and income effects of price changes.

2. An individual utility function is given by U(x,y) = x·y. At price p_x = 10, p_y = 40 and U = 200, the quantity demanded x^c (on this individual compensated demand curve) is [xc]. (Hint: Set up this individual expenditure minimization problem and derive her compensated demand function.)

Answer 1