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Harvard Economics 2020a Problem Set 3

# Harvard Economics 2020a Problem Set 3

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12/05/2012

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API 111 – Econ 2020a – HBS 4010Fall 2007 Problem Set #3Due: Wednesday, October 17, 2007
Due to the Columbus Day Holiday, you have two weeks to complete this problem set.Depending on how much we cover, we may add one or two additional problems, also to bedue on October 17
th
.
Please turn in your problem set by noon on the date the assignment is due. Assignments nothanded in in class should be put in the assignment drop box on the second floor of KSG, aroundthe corner from room L239 (near the elevator on the second floor). Although you may work ingroups on you assignment, each person should write up and hand in their own assignment. Also,note the names of your group members on your problem set. Problem sets submitted late will notbe given credit unless prior arrangements are made.
1.
Expenditure Minimization: Cobb-Douglas Utility
Consider the utility function:
u (x
1
, x
2
) = x
1a1
x
2a2
Let p
1
and p
2
be the (strictly positive) prices of x
1
and x
2
, respectively.a) Derive the consumer’s Hicksian demand functions.b) Derive the consumer’s expenditure function.c) Let w denote the consumer’s wealth. Using the solution to last week’s problem set, verify thath
1
(p,v(p,w)) = x
1
(p,w) and e(p,v(p,w)) = w.
2.
A consumer has utility function:U(L,F) = L
A
F
1-A
Where L is the number of hours of leisure the consumer has during the day, F is the amount of food heconsumes, and 0 < A < 1. The consumer has a total of 24 hours per day which he must divide betweenleisure and labor. For each hour of labor, the consumer earns wage s, and each unit of food costs p dollars.The consumer has initial wealth w.3a) Write down an expression for the number of hours the consumer spends on labor in terms of thenotation above. Write down the consumer’s budget constraint.3b) Write down the consumer’s utility maximization problem. Hint: do not forget the appropriateresource constraints on the availability of labor and leisure time. Derive the Kuhn-Tucker conditions.3c) Derive the consumer’s Walrasian demand functions for leisure, L(p,s,w), and food, F(p,s,w). You mayassume an interior solution (i.e. that L(p,s,w) and F(p,s,w) are strictly positive for all levels of p, s, and w.)3d) In words, what is the meaning of the optimal value of the Lagrange multiplier
λ
(p,s,w)?3e) How will the consumer’s consumption of food be affected by changes in s, p, or w?