Microeconomics: Budget Constraints

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Department:Faculty of Business Management & Globalization
Course Name:
Commence Date:Week 5
Deadline Date:Week 5
Unit Controller / Examiner:Faizah Shahudin
Contact Number:8125

1. Yap receives a weekly allowance of $20 from his parents that he uses to purchase two goods: Pokemon cards (which cost $5 per pack) and comic books (which cost $4 each). Draw Yap’s budget constraint. Show what would happen if Yap’s parents lower his allowance to $15 per week. Does the opportunity cost of a comic book change?

The budget constraints are shown below. When Yaps allowance falls, the budgetconstraint shifts in but keeps the same slope. The opportunity cost of a comic book isunaffected. It is equal to 4/5 of a pack of Pokemon cards both before and after the change in Yap’s allowance.

2. Assume that Lina can buy gum or candy. A pack of gum costs $.30 and a candy bar costs $.50. Lina has $3.00 a day to spend on gum and candy bars. Draw Lina’s budget constraint. Shade in Lina’s choice set. On the graph show how LIna’s budget constraint will be affected if the price of gum increases to $.50.


3. When the price of raisins falls, the quantity of raisins demanded rises. Explain this change in terms of income and substitution effects.

When the price of raisins falls, households have more purchasing power than before. If raisins are a normal good, this means that they will consume more of them. This is the income effect. Also, a decrease in the price of raisins makes raisins relatively less expensive. Thus, households will shift toward purchasing raisins from purchasing relatively more expensive goods. This is the substitution effect. Both effects imply that the quantity of raisins demanded will rise as the price of raisins falls.

4. Using indifference curves and budget constraints, explain how a consumer maximizes utility. Show how...
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