Question 1: Assume that there are two goods. The price of the first good is $10 and the price of the second good is $20. The income is m=200.

• Determine the budget constraint.
• Determine the slope and the intercepts of the budget line.
• Graph the budget set.
• Assume that income increases to m=300. At the same time the price of good 1 increases to 20. Determine the equation of the new budget line.
• Determine the slope and the intercepts of the new budget line.
• Graph the new budget set.

Question 2: Before solving this question read page 23 of the textbook. In this question the discussion of the book is extended from two to three goods. Assume that the prices of three goods are given by p₁=1, p₂=2 and p₃=10. A consumer has an income of 50 Dollars. The current consumption is x=(10,5,3).

• Determine Dx₂/Dx₃, i.e., the ratio at which good 2 can be substituted for good 3.
• Determine Dx₁/Dx₃, i.e., the ratio at which good 1 can be substituted for good 3.
• Assume consumption of good 3 is decreased by 2 units. By how many units can the consumption of good 1 be increased?

Question 3: Assume that there are two goods. The price of the first good is $10, the price of the second good is $5. The income is m=200. For the following read section 2.6.

In all the cases below determine the equation of the new budget line, the intercepts and the slope (always starting from the initial level of prices and income given above).

• The government imposes a quantity tax of 2 Dollars on good 1;
• The government imposes a value tax of 20% on good 1.
• The government pays a quantity subsidy of 1 Dollar on good 1.
• The government pays a lump sum subsidy of 40 Dollars.

• Find the vertical intercept of the budget line (i.e., the consumption bundle on the budget line for which x₁=0).
• Find the point on the budget line where the price changes (i.e., the consumption bundle on the budget line for which x₁=10).
• Find the horizontal intercept of the budget line (i.e., the consumption bundle on the budget line for which x₂=0).
• Determine the slope of the budget line if x₁=<10 and the slope if x₁>=10.
• Find the equation of the budget line for x=<10 (note that you know two points which are on this part of the budget line. This is sufficient to establish the equation of the budget line).
• Find the equation of the budget line for x=>10 (use the same method as above.

Question 5 Solve question 2.6 in the Workbook.

Question 6 Solve question 2.7 in the Workbook.

Question 7 Solve question 2.12 in the Workbook.

To the title page