Answer to Question #273081 in Microeconomics for hgh

Question

Kaanha likes to consume only two goods – butter and flutes. He earns an income of Rs 2000 per month which he entirely spends on consumption of the two goods. Price of a unit of butter is at Rs 40 and the price of a flute is at Rs 10. Kaanha currently optimally consumes 40 units of butter and 40 units of flutes. Now, price of both the goods have become equal at Rs 25. At optimal choice, how would the level of satisfaction of Kaanha be affected by this price change? Explain with the help of a diagram.    

Answer 1

At the optimal choice of goods butter and flute is attained when all income is spent, and the consumer is on the highest attainable indifference curve. At the optimal choice, the indifference curve just touches the budget line and so at this one point the slope of the indifference curve is equal to the slope of the budget line.