Create a chart that shows the direction of the income

Reference no: EM132200698

Question: 1. Suppose an individual's price consumption curve (as the price of x changes) is vertical. Consider the substitution, income and total effects of a decrease in the price of x.

a. Create a chart that shows the direction of the income, substitution and total effects on goods x and y.

b. What can you say, if anything, about the relative magnitudes of the income and substitution effects of the price decrease on the consumption of good x? Explain

c. Graphically decompose the total effect of the price decrease into the substitution and income effects on a well-annotated graph. Make sure you clearly label each of the 3 effects.

2. Priyesh's preferences for goods x and y is given by the utility function U = x + 2y^1/2 . His income is $500, and the price of good y is always $1. Suppose the price of x starts at $10 and then increases to $15.

a. Calculate the substitution effect on goods x and y.

b. Calculate the income effect on goods x and y.

c. Graphically decompose the total effect of this price increase into the substitution and income effects on a well-annotated graph. Make sure you clearly label each effect.

Reference no: EM132200698

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