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ClassOf1_utility_maximisation_choice

ClassOf1_utility_maximisation_choice

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Utility maximization choice with current income & prices of two goods - wine & cheese
Utility maximization choice with current income & prices of two goods - wine & cheese

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Published by: ClassOf1.com on Sep 10, 2009
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05/11/2014

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ClassOf1provides exert guidance for College, Graduate and High schoolhomework and liveonline  tutoring on subjects likeFinance, Marketing,Statistics,Economicsand others. Check out more solved   problems in our Solution Library.
 
Sub: Economics Topic: Micro Economics
Question:
Utility maximization choice with current income & pricesof two goods - wine & cheese
Bridget has limited income and consumers only wine and cheese; her currentconsumption choice is four bottles of wine and 10 pounds of cheese. Theprice of wine is $10 per bottle, and the price of cheese is $4 per pound. Thelast bottle of wine added 50 units to Bridget’s utility, while the last pound of cheese added 40 units.a. Is Bridget making the utility maximizing choice? Why or why not.b. If not, what should she do instead.
Solution:
Part aWe assume well behaved preference ordering for Bridget, i.e. a concaveutility function and hence convex to the origin Indifference curves.Let Marginal Utility of wine be MUwLet Marginal Utility of cheese be MUcApplying the Ordinal approach to consumer utility, the MRS = (MUw/MUc) The budget constraint of Bridget isPwQw + PcQc=M
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 The Homework solutions from ClassOf1 are intended to help the student understand the approach to solving the problem and not forsubmitting the same inlieu of your academic submissions for grades.
 
Sub: Economics Topic: Micro Economics
WherePw=price of WinePc=price of cheeseQw=quantity of Wine consumedQc=quantity of cheese consumedGiven constant income and prices, we writePwdQw + PcdQc=0Or PwdQw=-PcdQcOr dQc/ dQw = - (Pw/ Pc) The above is the slope of the budget line.At optimality we must have: MRS=|-(Pw/ Pc)|At the point of Bridget’s consumption MUw=50,MUc=40.Hence MRS=5/4. The slope of his budget line (Pw/ Pc) =10/4=5/2.Hence MRS is not equal to Price ratio.
www.classof1.com
*
 The Homework solutions from ClassOf1 are intended to help the student understand the approach to solving the problem and not forsubmitting the same inlieu of your academic submissions for grades.

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