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Q1. Colette consumes goods x and y. Her indifference curves are described by the formula y =

k/(x + 7). Higher values of k correspond to better indifference curves.

A. Colette likes good y and hates good x.

B. Colette prefers bundle (12, 16) to bundle (16, 12).

C. Colette prefers bundle (8, 5) to bundle (5, 8).

D. Colette likes good x and hates good y.

E. More than one of the above statements are true.

ANS B. Given any consumption bundle (x, y), solve for the value of k, which gives you level

of the indifference curve. So, for the bundle A = (12, 16) the corresponding vlaue is ka = 1619

while for the bundle B = (16, 12) the corresponding value is kb = 23 12. Since ka > kb , B

is true. Moreover for any A = (x, y) and B = (x0 , y 0 ) are such that x > x0 and y y 0 , then

ka = (x + 7)y > (x0 + 7)y 0 = kb , so A cannot be true and so on.

Q2. Nicks indifference curves are circles, all of which are centered at (12, 12). Of any two indifference circles, he would rather be on the inner one than the outer one.

Hint: Formula for the square of distance of a point (x, y) from (12, 12) is (x 12)2 + (y 12)2 .

A. Nicks preferences are not complete.

B. Nick prefers (16, 17) to (10, 10).

C. Nick prefers (10, 17) to (10, 10).

D. Nick prefers (8, 8) to (17, 21).

E. More than one of the above statements are true.

ANS D. Just use the above formula in each case. For instance, the square of the distance of

(8, 8) from (12, 12) is (8 12)2 + (8 12)2 = 32 whereas the same for (17, 21) is (17 12)2 +

(21 12)2 = 106. So the (8, 8) is closer to (12, 12) and is hence preferred.

Q3. If there are only two goods, if more of good 1 is always preferred to less, and if less of good 2

is always preferred to more, then indifference curves

A. slope downward.

B. slope upward.

C. may cross.

D. could take the form of ellipses.

1

ANS B.

Q4. If two goods are perfect complements,

A. there is a bliss point and the indifference curves surround this point.

B. consumers will only buy the cheaper of the two goods.

C. indifference curves have a positive slope.

D. None of the above.

ANS D. The consumer will choose equal quantities of the two goods, independent of the prices.

So not B.

Q5. Preferences are said to be monotonic if

A. all goods must be consumed in fixed proportions.

B. all goods are perfect substitutes.

C. more is always preferred to less.

D. there is a diminishing marginal rate of substitution.

E. None of the above.

ANS C

Q6. In year 1, the price of good x was $3, the price of good y was $2, and income was $90. In year

2, the price of x was $9, the price of good y was $6, and income was $90. On a graph with x

on the horizontal axis and y on the vertical, the new budget line is

A. flatter than the old one and lies below it.

B. flatter than the old one and lies above it.

C. steeper than the old one and lies below it.

D. steeper than the old one and lies above it.

E. None of the above.

ANS E. The intial slopoe of the budget line is -3/2 and the new slope is -9/6=-3/2, the same

as the old one. The new budget line will have the same slope as the old one.

Q7. Suppose the government imposes a quantity tax uniformly on goods X and Y at the rate t > 0

per unit.

A. The budget line shifts outward.

B. If preferences are monotonic, the consumer is worse off.

2

C. It has the same effect as reducing the income, keeping the prices fixed.

D. Both B and C.

E. None of the above.

ANS B This is clear, since the new budget line lies below the old budget line with the X

intercept being M/(px + t) and the Y intercept being M/(py + t). Note D is not the answer,

since new slope of the budget line is (px + t)/(py + t) if it were teh same as changing the

income, then the slope would have remained at px /py .

Q8. Suppose A B but the indifference curve through A intersects the one that goes through B.

A. Preferences violate transitivity.

B. Preferences violate completeness.

C. Both A and B.

D. Not enough information to conclude either way.

ANS A.

Q9. Suppose we double the prices and income.

A. The consumers demand must remain unchanged.

B. If initially more of X is consumed relative to Y , then even more X will be consumed.

C. If initially more of X is consumed relative to Y , now less of X will be consumed.

D. Any of the three cases is possible, it depends on the initial income.

E. Depends on which goods price was initially higher, more of that good will now be consumed.

ANS A. We talked about it in class (when I referred to lack of money illusion) with such

a change in income and prices the new budget constraint is the same as the old one.

Q10. The price of Y is fixed at $2. The price of X is $2 for until first 5 units but drops to $1 for

every additional unit. If the income is $20,

A. The budget set is a triangle.

B. The budget set cannot be determined.

C. The budget set is such that there exist consumption bundles A and B both of which are

feasible but their average is not feasible.

D. Need to know the preferences to compute the budget set.

E. None of the above.

consumer chooses more than 5 units, for the first 5 units of X she pays $10 and the remaining

x 5 units cost him x 5, since the price has now dropped to $1 for each unit of X. Therefore

the budget constraint is

2x + 2y = 20

if x 5

10 + (x 5) + y = 20

if x > 5

Or x + 2y = 15.

if x > 5

(1)

(2)

Draw the two lines described by Eq. (1) and Eq. (2) They will look as shown first part of

Figure 1. Taking the relevant portions, the budget set is the region described by the thick

lines in the other picture. The inward kink shows that we must be able to find two points on

the boundary whose average lies outside the shaded region.

Y

10

10

5

15

5

15

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