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**Rasmus Fisker Bang
**

March 6, 2015

**Student number: 201405433 Group number: 2
**

06.03.2015

Problem 1

1.1

x1 (p, I) =

p2

p1 +p2

∗

I

p1

x2 (p, I) =

p1

p1 +p2

∗

I

p2

**To check for homogenity, I multiply the functions by a constant t.
**

x1 (tp, I) =

tp2

tp1 +tp2

∗

tI

tp1

= x1 (p, I)

x2 (tp, I) =

tp1

tp1 +tp2

∗

tI

tp2

= x2 (p, I)

**The functions are homogenous of degree zero.
**

Now I want to proof that all income is spent, therefore I use walras’ law.

p1 x1 + p2 x2 = E

2

p1 ( p1p+p

∗

2

I∗

p2

p1 +p2

I

p1 )

+I ∗

1

+ p2 ( p1p+p

∗

2

p1

p1 +p2

I

p2 )

=E

=E

2

I( pp11 +p

+p2 ) = E

1

2 ∂u ∂u (tx) (x) ∂x ∂x − 1 =− 1 ∂u ∂u (tx) (x) ∂x2 ∂x2 Therefore the functions are homothetic. 1.t. y) = xα y 1−α − λ(px x + py y − I) ∂L = αxα−1 y 1−α − λpx = 0 ⇔ λ = x αxα−1 y 1−α px ∂L = (1 − α)xα y −α − λpy = 0 ⇔ λ = y (1−α)xα y −α py ∂L = −px x − py y + I = 0 λ 2 . y) = xα y 1−α s.x1 1. Own-price effect: I p2 I ∂x1 > 0 Therefore the two = − ∂p2 (p1 + p2 )p1 (p1 + p2 )2 p1 goods are substitutes.I=E Thus all income is spent. consequently the consumer has rational preferences. cross-price effect: Income effect: ∂x1 I = > 0 Therefore the two goods are normal ∂I (p1 + p2 )p1 goods. px x + py y = I I write up the lagrangian and solve the problem. L(x. because x1 and x2 are symmetric.3 ∂x1 p2 I p2 I =− − < 0 Therefore the law of ∂p1 (p1 + p2 )p1 (p1 + p2 )2 p1 demand is satisfied. Problem 2 2.1 maxU (x. I can use these results on x2 as well.

U (x∗ . py .αxα−1 y 1−α px = (1−α)xα y −α py αxα−1 y 1−α py = (1 − α)xα y −α px py y α = y= px (1 − α)xα αxα−1 y 1−α xpx (α − 1) αpy px x + py y = I px x + py ( x∗ = xpx (α − 1) )=I αpy αI (2α − 1)px αI )px (α − 1) (2α − 1)px ∗ y = αpy ( y∗ = (α − 1)I (2α − 1)py Now I insert the optimal values in the utility function.3 ? Problem 3 3 . u ¯) = (α − 1) ∗ px α ] py u ¯ αpy α−1 2.2 ( αI (α − 1)I 1−α )α ( ) =u ¯ (2α − 1)px (2α − 1)py I now solve for I (2α − 1)[ I = E(px . y ∗ ) = ( αI (α − 1)I 1−α )α ( ) (2α − 1)px (2α − 1)py 2.

2 4 .When the price falls the consumer wants to consume more. False . therefore the gradient vector must point in the exact same direction. True . True 6.u) ∂p2 xc = (α−α (1 − α)α−1 )(1 − α)p1α−1 p1−α u 2 −α xc = (α−α (1 − α)α )pα 1 p2 u 4. 4. False .In the utility maximum the slope of the indifference curve and the slope of the price vector are the same.If the function is strictly quasi-concave then the upper contour set is strictly convex. 7.Because of inferior goods. False .u) ∂p1 xc = (α−α (1 − α)α−1 )αpα−1 p1−α u 1 2 xc = (α1−α (1 − α)α−1 )pα−1 p1−α u 1 2 xc2 = ∂E(p1 . True .p2 . 8. xc1 = ∂E(p1 . True .With homothetic preferences the slope of the budget constraint does not change. therfore the income expansion path will be linear. we only consume more of one good. 11. True . 5. False .p2 . 10. True . True Problem 4 4.Because the numeraire is held constant. 3.1.1 First I use shepard’s lemma. 9. 2.Because when our income increases.The upper contour set is convex if the utility function is quasiconcave.Because the relative prices do not change. which means diminishing MRS.

4 ? 4.3 We say that: E=I (α−α (1 − α)α−1 )αpα−1 p1−α u=I 1 2 u= I (α−α (1 − α)α−1 )αpα−1 p1−α 1 2 4.5 ? 5 .? 4.

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