Intermediate Microeconomics EC202

Tutorial 2 Suggested Solutions

Chapter 3

Part A
1. Consumers are willing to move from one point along an indifference curve to another as
long as the
A. new bundle of goods leads the consumer to an equally high level of satisfaction.
B. new bundle of goods leads the consumer to a higher level of satisfaction.
C. new bundle of goods does not lead to a non-transitive choice
D. new bundle of goods has a lower level of utility.

2. When examining consumer preferences, it is better to analyze and evaluate ______.

A. the quantity of goods purchased
B. the order of preferences
C. the availability of certain goods
D. the strength of consumer preferences

3. The following assumption(s) is/are true regarding indifference curves:

A. Each and every consumption basket lies on only one indifference curve.
B. Indifference curves have a negative slope if a consumer likes both goods.
C. Indifference curves cannot intersect.
D. All of the above

4. A diminishing marginal rate of substitution of hamburgers for hot dogs means that the
marginal rate of substitution of ___________.
A. hamburgers for hot dogs increases as the consumption of hamburgers increase
B. hamburgers for hot dogs remains constant as consumption of hamburgers increases
C. hamburgers for hot dogs decreases as the consumption of hamburgers increase
D. hamburgers for hot dogs increases as the consumption of hamburgers decrease

5. If a customer is unwilling to substitute one good for another, we say that the consumer
preferences are _____.
A. partial substitutes
B. complements
C. perfect complements
D. indifferent
Intermediate Microeconomics EC202

Tutorial 2 Suggested Solutions

Chapter 3

Part B
1. Give an example of preferences (i.e., a ranking of baskets) that do not satisfy the
assumption that preferences are transitive.
If a consumer states that A is preferred to B and that B is preferred to C, but then states that C is
preferred to A, she will be violating the assumption of transitivity. The third statement is
inconsistent with the first two.

2. What is the difference between an ordinal ranking and a cardinal ranking?

An ordinal ranking simply orders the baskets, but does not give any indication as to how much
better one basket is when compared with another; only that one is better. A cardinal ranking
not only orders the baskets, but also provides information regarding the intensity of the
preferences. For example, a cardinal ranking might indicate that one basket is twice as good as
another basket.

3. Why can’t you plot the total utility and marginal utility curves on the same graph?
The two cannot be plotted on the same graph because utility and marginal utility are not
measured in the same dimensions. Total utility has the dimension U , while marginal utility has
the dimension of utility per unit, or ΔU / Δy where y is the number of units purchased.

4. What is a basket (or a bundle) of goods?

A basket is a collection of goods and services that an individual might consume.
Intermediate Microeconomics EC202

Tutorial 2 Suggested Solutions

Chapter 3

Part C

1. Consider the utility function U(x, y) = y√x with the marginal utilities MUx = y/(2√x) and
MUy = √x.
a) Does the consumer believe that more is better for each good?

Since U increases whenever x or y increases, more of each good is better. This is also
confirmed by noting that MUx and MUy are both positive for any positive values of x and
y

b) Do the consumer’s preferences exhibit a diminishing marginal utility of x? Is the

marginal utility of y diminishing?

Since MU x = y
2 x
, as x increases (holding y constant), MU x falls. Therefore the
marginal utility of x is diminishing. However, MU y = x . As y increases, MUy does not
change. Therefore the preferences exhibit a constant, not diminishing, marginal utility
of y.

2. The utility that Julie receives by consuming food F and clothing C is given by U(F, C) = FC.
For this utility function, the marginal utilities are MUF = C and MUC = F.
a) On a graph with F on the horizontal axis and C on the vertical axis, draw indifference
curves for U = 12, U = 18, and U = 24.
Intermediate Microeconomics EC202

Tutorial 2 Suggested Solutions

Chapter 3

14

12

10
Clothing

0
-1 1 3 5 7 9 11 13 15

Food

b) Do the shapes of these indifference curves suggest that Julie has a diminishing marginal
rate of substitution of food for clothing? Explain.
Yes, since the indifference curves are bowed in toward the origin we know that MRSF,C
declines as F increases and C decreases along an indifference curve.

c) Using the marginal utilities, show that the MRSF,C = C/F. What is the slope of the
indifference curve U = 12 at the basket with 2 units of food and 6 units of clothing?
What is the slope at the basket with 4 units of food and 3 units of clothing? Do the
slopes of the indifference curves indicate that Julie has a diminishing marginal rate of
substitution of food for clothing? (Make sure your answers to parts (b) and (c) are
consistent!)

MU F C
MRS F ,C = =
MU C F
When F = 2 and C = 6, MRSF,C = 3. The slope of the indifference curve is –3. When F = 4
and C = 3, MRSF,C = 0.75, so the slope of the indifference curve is –0.75. Since the
marginal rate of substitution falls as F increases and C decreases, she has a diminishing
marginal rate of substitution.
Intermediate Microeconomics EC202

Tutorial 2 Suggested Solutions

Chapter 3

3. Consider the following utility function U(x, y) = x0.4y0.6.

a. Calculate the marginal utility
The marginal utilities are MUx = 0.4 (y0.6/x0.6) and MUy = 0.6 (x0.4/y0.4).

b. Is the assumption that more is better satisfied for both goods?

Yes, the “more is better” assumption is satisfied for both goods since both
marginal utilities are always positive.

c. Does the marginal utility of x diminish, remain constant, or increase as the

consumer buys more x? Explain.
The marginal utility of x diminishes as the consumer buys more x .

d. What is MRSx, y?

.4( y 0.6 / x 0.6 ) 0.4 y

MRS x , y = =
.6( x 0.4 / y 0.4 ) 0.6 x

e. Is MRSx, y diminishing, constant, or increasing as the consumer substitutes x for y

along an indifference curve?
As the consumer substitutes x for y , the MRS x , y will diminish.
e & f) See figure below. The indifference curves do not intersect either axis.

f. On a graph with x on the horizontal axis and y on the vertical axis, draw a typical
indifference curve (it need not be exactly to scale, but it needs to reflect
accurately whether there is a diminishing MRSx, y). Also indicate on your graph
whether the indifference curve will intersect either or both axes. Label the curve
U1.

g. On the same graph draw a second indifference curve U2, with U2 > U1.
Intermediate Microeconomics EC202

Tutorial 2 Suggested Solutions

Chapter 3

160
140
U2
120
100
80
Y

60 U1

40
20
0
0 5 10 15 20 25 30 35

4. Consider the utility function U(x, y) = y√x with the marginal utilities MUx = y/(2√x) and
MUy = √x.
a) Does the consumer believe that more is better for each good?

Since U increases whenever x or y increases, more of each good is better. This is also
confirmed by noting that MUx and MUy are both positive for any positive values of x and
y.

b) Do the consumer’s preferences exhibit a diminishing marginal utility of x? Is the

marginal utility of y diminishing?

Since MU x = y
2 x
, as x increases (holding y constant), MU x falls. Therefore the
marginal utility of x is diminishing. However, MU y = x . As y increases, MUy does not
change. Therefore the preferences exhibit a constant, not diminishing, marginal utility
of y.