1. Alexa likes ice cream, but dislikes yogurt.

If you make her eat another gram of

yogurt, she always requires two extra grams of ice cream to maintain a constant
level of satisfaction. On a graph with grams of yogurt on the vertical axis and
grams of ice cream on the horizontal axis, graph some typical indifference curves
and show the directions of increasing utility.

Grams
U2 U3>U2>U1
of U1
Yogurt
3
U3

2 Directions of
Increased
Satisfaction

1 2 3 4 5 6 Grams of
Ice Cream

2. Draw indifference curves to represent the following types of consumer preferences.

a) I like both peanut butter and jelly, and always get the same additional satisfaction
from an ounce of peanut butter as I do from 2 ounces of jelly.
b) I like peanut butter, but neither like nor dislike jelly.
c) I like peanut butter, but dislike jelly.
d) I like peanut butter and jelly, but I only want 2 ounces of peanut butter for every
ounce of jelly.

In the following pictures, U2>U1.

a)
Jelly

U1 U2
Peanut Butter
1 2

b)
 Jelly

U1 U2

Peanut Butter

c)
Jelly U1
U2

Peanut Butter

d)
Jelly
U1 U2

2
1
Peanut Butter
2 4

3. Karl’s preferences over hamburgers (H) and beer (B) are described by the utility
function: U(H, B) = min(2H, 3B). His monthly income is I dollars, and he only
buys these two goods out of his income. Denote the price of hamburgers by PHand
of beer by PB. Derive Karl’s demand curve for beer as a function of the exogenous
variables.

I
Answer: B =
(1.5PH + PB )
4. Ginger’s utility function is U(x, y) = x2y, with associated marginal utility functions
MUx= 2xy and MUy= x2. She has income I = 240 and faces prices Px= $8 and Py= $2.
a) Determine Ginger’s optimal basket given these prices and her income.

Answer: (x, y)=(20, 40) with a utility of 202(40)=16,000

5. Ann’s utility function is U(x, y) = x + y, with associated marginal utility functions

MUx= 1 and MUy= 1. Ann has income I = 4.
a) Determine all optimal baskets given that she facesprices Px= 1 and Py= 1.
b) Determine all optimal baskets given that she faces prices Px= 1 and Py= 2.

Answer a): when Px = 1 and Py = 1 all pairs of x and y such that x + y = 4 are optimal
baskets.

Answer b): Optimal consumption in this case is at a corner point. Since the price of x is
smaller than the price of y and marginal utility of reach good is the same, consumer is better
off purchasing only x. (Another way to see this is to note that MU¬X/PX = 1/1 > MU¬Y/PY
= ½.) Hence, the optimal basket consists of 4 units of x and zero units of y.

6. The demand for beer in Japan is given by the following equation: Qd= 700 − 2P − PN+
0.1I, where P is the price of beer, PNis the price of nuts, and I is average consumer
income.
a) What happens to the demand for beer when the price of nuts goes up? Are beer and
nuts demand substitutes or demand complements?
b) What happens to the demand for beer when average consumer income rises?

Answer:
a) When the price of nuts goes up, the beer quantity demanded falls for all levels of price
(demand shifts left). Beer and nuts are demand complements.
b) When income rises, quantity demanded increases for all levels of price (demand shifts
rightward).