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Economics 310, Fall 2001 First Homework

Economics 310, Fall 2001 First Homework. Prof. Kenneth Ng Dept. of Economics COBAE California State University-Northridge. Problem 1-9:30 AM.

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Economics 310, Fall 2001 First Homework

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  1. Economics 310, Fall 2001First Homework Prof. Kenneth Ng Dept. of Economics COBAE California State University-Northridge

  2. Problem 1-9:30 AM • Question 1. Consider a person with a $50 per week to spend on entertainment. Every week he can either spend his budget going to the movies or bar hopping. A ticket to the movies costs $10 and a drink at the local bar is $5. • Draw his budget line and indifference curves if he buys 4 movie tickets per week and spends the rest of his income at the local bar. • Suppose his entertainment budget increased to $80 per week and you observe him buy 5 movie tickets each week. Show the effect of the increase in budget if both movies and drinks are normal goods. • Show the effect of the increase in budget if movies are inferior and drinks are normal. • Suppose the old local movie theater is torn down and replaced by a new multiplex with stadium style seating, digital sound, huge screens, and more comfortable seats. Viewing a movie is much more enjoyable. At the same time, the theater raises the price of movie tickets to $12.50. • What effect will this have on the person’s budget line between movies and drinks? Show graphically. • What effect will this have on the person’s indifference curves between movies and drinks. Show graphically. • Explain the effect on the person’s indifference curves using the concept of Marginal Rate of Substitution. • Show the dual effect of the change in the price of tickets and the new movie theatre assuming both movie tickets and drinks are normal. • True, false, uncertain. Explain. The total expenditure on movies will increase.

  3. Consider a person with a $50 per week to spend on entertainment. Every week he can either spend his budget going to the movies or bar hopping. A ticket to the movies costs $10 and a drink at the local bar is $5. Draw his budget line and indifference curves if he buys 4 movie tickets per week and spends the rest of his income at the local bar. Suppose his entertainment budget increased to $80 per week and you observe him buy 5 movie tickets each week. Show the effect of the increase in budget if both movies and drinks are normal goods. Show the effect of the increase in budget if movies are inferior and drinks are normal. Movies 8 5 normal 4 inferior 2 10 16 6 Drinks

  4. Suppose the old local movie theater is torn down and replaced by a new multiplex with stadium style seating, digital sound, huge screens, and more comfortable seats. Viewing a movie is much more enjoyable. At the same time, the theater raises the price of movie tickets to $12.50. • What effect will this have on the person’s budget line between movies and drinks? Show graphically. • What effect will this have on the person’s indifference curves between movies and drinks. Show graphically. • Explain the effect on the person’s indifference curves using the concept of Marginal Rate of Substitution. • Show the dual effect of the change in the price of tickets and the new movie theatre assuming both movie tickets and drinks are normal. • True, false, uncertain. Explain. The total expenditure on movies will increase. Movies 8 6.4 5 6 16 Drinks

  5. Suppose the old local movie theater is torn down and replaced by a new multiplex with stadium style seating, digital sound, huge screens, and more comfortable seats. Viewing a movie is much more enjoyable. At the same time, the theater raises the price of movie tickets to $12.50. • What effect will this have on the person’s budget line between movies and drinks? Show graphically. • What effect will this have on the person’s indifference curves between movies and drinks. Show graphically. • Explain the effect on the person’s indifference curves using the concept of Marginal Rate of Substitution. • Show the dual effect of the change in the price of tickets and the new movie theatre assuming both movie tickets and drinks are normal. • True, false, uncertain. Explain. The total expenditure on movies will increase. Movies Because the movie theatre is nicer and viewing movies more enjoyable, the value of movies relative to drinks falls. This causes the slope of the IC, the MRS of drinks, to fall. 8 6.4 5 6 16 Drinks

  6. Suppose the old local movie theater is torn down and replaced by a new multiplex with stadium style seating, digital sound, huge screens, and more comfortable seats. Viewing a movie is much more enjoyable. At the same time, the theater raises the price of movie tickets to $12.50. • What effect will this have on the person’s budget line between movies and drinks? Show graphically. • What effect will this have on the person’s indifference curves between movies and drinks. Show graphically. • Explain the effect on the person’s indifference curves using the concept of Marginal Rate of Substitution. • Show the dual effect of the change in the price of tickets and the new movie theatre assuming both movie tickets and drinks are normal. • True, false, uncertain. Explain. The total expenditure on movies will increase. Movies The expenditures on movies is given by: PmovieQmovies The price of movies is going up. This by itself would cause an increase in expenditures on movies. However, the Q of movies bought is also changing. The net change in movie purchases is indeterminate because the construction of the new movie theatre would cause movie consumption to go up, the substitution effect would cause the consumption of movies to go down, and the income effect would cause the consumption of movies to go down. Therefore, the change in expenditures is indeterminate. Change after rise in price and construction of new theatre 8 6.4 5 Change after rise in price with old theatre 6 16 Drinks

  7. Problem 2-9:30AM • Consider the demand schedule below. • Graph the demand curve and show indifference curves and budget lines that are consistent with the demand schedule on the graphs below. Assume that the good is normal. • Show the substitution and income effects of a change in price from $25 to $50.

  8. Price Consider the demand schedule below. Graph the demand curve and show indifference curves and budget lines that are consistent with the demand schedule on the graphs below. Assume that the good is normal. Show the substitution and income effects of a change in price from $25 to $50. $50 $25 10 40 Quantity All Other Goods Substitution Effect Income Effect 10 40 Good

  9. Problem 1-2PM Class • Consider a person with a $100 per week to spend on entertainment. Every week he can either spend his budget going to the movies or drinking. A ticket to the movies costs $10 and a drink at the local bar is $5. • Draw his budget line and indifference curves if he buys 4 movie tickets per week and spends the rest of his income at the local bar. • Suppose his entertainment budget increased to $180 per week. Show the effect of the increase in budget if movies are inferior and drinks are normal goods. • Show the effect of the increase in budget if both movies and drinks are normal. • Suppose the run down dingy old local bar is torn down and replaced by a brand new fancy bar. Instead of drinking in the old dingy, dark, smelly bar, the new bar is well lit, nicely furnished, has a huge dance floor and is well ventilated. Drinks in the new bar are $10 vs. $5 in the old bar. • What effect will this have on the person’s budget line between movies and drinks? Show graphically. • What effect will this have on the person’s indifference curves between movies and drinks. Show graphically. • Explain the effect on the person’s indifference curves using the concept of Marginal Rate of Substitution. • Show the dual effect of the change in the price of drinks and the construction of the new bar assuming both movie tickets and drinks are normal. • True, false, uncertain. Explain. The total expenditure on drinks will increase.

  10. Consider a person with a $100 per week to spend on entertainment. Every week he can either spend his budget going to the movies or drinking. A ticket to the movies costs $10 and a drink at the local bar is $5. Draw his budget line and indifference curves if he buys 4 movie tickets per week and spends the rest of his income at the local bar. Suppose his entertainment budget increased to $180 per week. Show the effect of the increase in budget if movies are inferior and drinks are normal goods. Show the effect of the increase in budget if both movies and drinks are normal. Movies 18 10 normal 4 inferior 12 20 36 Drinks

  11. Suppose the run down dingy old local bar is torn down and replaced by a brand new fancy bar. Instead of drinking in the old dingy, dark, smelly bar, the new bar is well lit, nicely furnished, has a huge dance floor and is well ventilated. Drinks in the new bar are $10 vs. $5 in the old bar. • What effect will this have on the person’s budget line between movies and drinks? Show graphically. • What effect will this have on the person’s indifference curves between movies and drinks. Show graphically. • Explain the effect on the person’s indifference curves using the concept of Marginal Rate of Substitution. • Show the dual effect of the change in the price of drinks and the construction of the new bar assuming both movie tickets and drinks are normal. • True, false, uncertain. Explain. The total expenditure on drinks will increase. Movies 18 18 36 Drinks

  12. Suppose the run down dingy old local bar is torn down and replaced by a brand new fancy bar. Instead of drinking in the old dingy, dark, smelly bar, the new bar is well lit, nicely furnished, has a huge dance floor and is well ventilated. Drinks in the new bar are $10 vs. $5 in the old bar. • What effect will this have on the person’s budget line between movies and drinks? Show graphically. • What effect will this have on the person’s indifference curves between movies and drinks. Show graphically. • Explain the effect on the person’s indifference curves using the concept of Marginal Rate of Substitution. • Show the dual effect of the change in the price of drinks and the construction of the new bar assuming both movie tickets and drinks are normal. • True, false, uncertain. Explain. The total expenditure on drinks will increase. Movies 8 Because the bar is nicer and and drinking in the new bar is more enjoyable, the value of drinks relative to movies rise. This causes the slope of the IC, the MRS of drinks, to rise. 8 16 Drinks

  13. Suppose the run down dingy old local bar is torn down and replaced by a brand new fancy bar. Instead of drinking in the old dingy, dark, smelly bar, the new bar is well lit, nicely furnished, has a huge dance floor and is well ventilated. Drinks in the new bar are $10 vs. $5 in the old bar. • What effect will this have on the person’s budget line between movies and drinks? Show graphically. • What effect will this have on the person’s indifference curves between movies and drinks. Show graphically. • Explain the effect on the person’s indifference curves using the concept of Marginal Rate of Substitution. • Show the dual effect of the change in the price of drinks and the construction of the new bar assuming both movie tickets and drinks are normal. • True, false, uncertain. Explain. The total expenditure on drinks will increase. Movies Change after rise in price and construction of new bar The expenditures on drinks is given by: PdrinksQdrinks The price of is staying the same. This by itself would cause no change in expenditures on movies. However, the Q of drinks bought is changing. The net change in drink purchases is indeterminate because the construction of the new bar would cause drink consumption to go up, the substitution effect of the change in drink prices would cause the consumption of drinks to go down, and the income effect would cause the consumption of drinks to go down. Therefore, the change in expenditures is indeterminate. 8 Change after rise in price with old bar 16 Drinks

  14. Problem 2-2 PM • Consider the demand schedule below. • Graph the demand curve and show indifference curves and budget lines that are consistent with the demand schedule on the graphs below. Assume that the good is normal. • Show the substitution and income effects of a change in price from $75 to $10.

  15. Price Consider the demand schedule below. Graph the demand curve and show indifference curves and budget lines that are consistent with the demand schedule on the graphs below. Assume that the good is normal. Show the substitution and income effects of a change in price from $75 to $10. $75 $10 10 40 Quantity All Other Goods Substitution Effect Income Effect 10 40 Good

  16. Exam Notes • Closed note. Closed book. • No Blue Book Required. • Calculator allowed. Memory must be purged before exam. • Exam will emphasize basic understanding of economic concepts and their application to the real world plus the ability to engage in economic analysis using the tools from lecture and textbook.

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