Question

A maximizing consumer with preferences u = x1/2y1/2 has an income of 50 dollars. Prices are pX = 1 and pY = 2. At CostCo the price of good X is pX = 0.25. Provide an Indifference Curve Diagram to illustrate and quantify the Income Effect and Substitution Effect for this price change. The horizontal intercept of her compensated budget line is equal to

Answer 1

Income Effect

Substitution Effect