Answer to Question #184976 in Microeconomics for taym

Question

A college student has two options for meals: eating at the dining hall for BDT 6 per

meal, or eating a Star Kabab for BDT 1.50 per meal. Her weekly food budget is BDT

60.

a. Draw the budget constraint showing the trade-off between dining hall meals and Star

Kabab. Assuming that she spends equal amounts on both goods, draw an indifference

curve showing the optimum choice. Label the optimum as point A.

b. Suppose the price of a Star Kabab now rises to BDT 2. Using your diagram from part

(a), show the consequences of this change in price. Assume that our student now spends

only 30 percent of her income on dining hall meals. Label the new optimum as point B.

c. What happened to the quantity of Star Kabab consumed as a result of this price change?

What does this result say about the income and substitution effects? Explain.

d. Use points A and B to draw a demand curve for Star Kabab. What is this type of good

called?

Answer 1

a. The budget constraint will be a line between points (10 meals at dining hall; 0 Star Kababs) and (0 meals at dining hall; 40 Star Kababs), it will show the trade-off between dining hall meals and Star Kabab.

If she spends equal amounts on both goods, then the optimum choice is 30/6 = 5 meals at the dining hall and 30/1.5 = 20 Star Kababs.

An indifference curve will intersect the budget line at this optimum point A.

b. If the price of a Star Kabab now rises to BDT 2, then the budget line will shift to the left.

If our student now spends only 30 percent of her income on dining hall meals, then the new optimum point B is 18/6 = 3 dining hall meals and 42/2 = 21 Star Kababs.

c. The quantity of Star Kabab consumed will increase by 1 unit as a result of this price change.

This result say that the income effect is lower than the substitution effect.

d. A demand curve for Star Kabab is a downward-sloping sloping curve passing through the points A and B. Star Kabab is a normal good.