# f06-answers-midterm1 - Economics 302 Intermediate...

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Economics 302 Silve Parviainen Intermediate Microeconomics Fall 2006 Answers to Midterm Examination I 1 Preferences and Utility (a) (1 , 4) = 16 ± (1 , 3) = 9 ± (2 , 2) = 8 ± (1 , 2) = (4 , 1) = 4 ± (3 , 1) = 3 ± (2 , 1) = 2 . (b) u 3 and u 4 : u 3 = x 1 3 1 x 1 2 2 = u 1 3 and u 4 = x 1 x 2 = u. u 2 does not : MRTS 2 = 2 x 2 x 1 6 = x 2 2 x 1 = MRTS . 2 Consumer Optimum (a) MRS = 20 x 1 = p 1 (as p 2 =1) = x 1 = 20 p 1 . Utilizing the budget line yields p 1 x 1 + p 2 + x 2 = I = x 2 = I 20 . (b) ± I, 1 =0 and ± 2 = I I 20 > 1 . You will always use \$20 for DVDs per week, no matter what your income. 3 Social Security and InFation (a) See Graph(1). In the graph, BL 1 refers to the original budget line, and ( x 1 ,x 2 ) the original optimal consumption point.

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After an increase in the price of food ( x 1 ), the budget line is BL 2 , and of course, the household is no longer able to aFord ( x 1 ,x 2 ). Now, the government uses its scheme to compensate the representative household. This results in BL 3 , which would allow for the original consumption basket ( x 1 2 ). The household doesn’t choose that basket, though. The new budget line allows them to reach a higher
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