Consider an 8-item choice problem where choice is constrained by total income m
ID: 1136148 • Letter: C
Question
Consider an 8-item choice problem where choice is constrained by total income m = 8 and linear prices pi = 1 for each item i = 1, ..., 8. You believe strongly in living a balanced life, and prefer bundles with equal quantities of all items over any other sort of bundle. Given equal quantities, you prefer more of everything.
For each of the following changes to the choice set, write down your new choice and state whether the change makes you better or worse off than under the original budget set, or has no impact: (a) The price of item 1 doubles. (b) Income increases by 50%. (c) All items become free, except for item 4, whose price increases to 15. (d) The government imposes rationing on item 2 - no more than two units may be purchased
Explanation / Answer
As the consumer wants to have equal quantities of all
(a) The price of item 1 doubles: It makes me worse off as I will have to reduce consumption of other goods to make all things equal.
(b) Income increases by 50%.- it makes me better off as my Budget line will shift outward and I will be able to buy more of all goods.
c) All items become free, except for item 4, whose price increases to 15.- It makes me worse off as my income is only 8 and I will not be able to afford item 4. i prefer having all items in equal.
(d) The government imposes rationing on item 2 - no more than two units may be purchased- It does not have any effect on me aas anyways my budget does not allow me to buy more than one good of item 2.