Budget Constraint Handout

# Budget Constraint Handout - Add this budget constraint to...

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ECON 302 – Finley Edwards Budget Constraint Handout 1. Ian Illini is a very lucky fellow. His parents pay for his room and board, tuition and books. They also give him ten dollars a week for spending money. Ian spends all his money on music downloads and beer. Music downloads cost \$1 a song and beer costs \$2 a bottle. Write down Ian’s budget constraint equation and graph it. Can Ian afford to buy 5 songs and 3 beers? Ian’s budget equation is m+2b 10, where m is songs and b is beers. He cannot afford to buy 5 songs and 3 beers since 5+2(3)=11. 0 2 4 6 8 10 12 14 0 2 4 6 8 10 12 14 Ian's Budget Set Music Beer Suppose the price of beer falls to \$1 a bottle. Add Ian’s new budget constraint to your graph. Now can he afford 5 songs and 3 Beers? The new budget line is the dotted red line on the graph. He can afford 5 songs and 3 beers at the new prices. Suppose Ian’s income increases to \$15 a week.

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Unformatted text preview: Add this budget constraint to your graph. Prices remain (1,1). The new budget line is the dashed blue line on the graph 2. Forgetful Frank spends all his money on hamburgers and DVDs. His income is \$100 a week. He remembers that last week he bought 14 hamburgers and 2 DVDS and the week before he bought 8 hamburgers and 4 DVDs. Each week he spent his entire income. However, he can’t remember the prices for hamburgers or DVDs. Graph Franks budget set. What is the price of hamburgers? Of DVDs? 5 10 15 20 25 2 4 6 8 10 Frank's Budget Set Hamburgers DVDs Since both of Frank’s consumption bundles must satisfy his budget equation p 1 x 1 +p 2 x 2 =100, we can substitute in his two choices and get two equations in two unknowns: p 1 14+p 2 2=100 p 1 8+p 2 4=100 Solving the system of equations gives p 1 =5 and p 2 =15....
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## This note was uploaded on 05/05/2010 for the course ECONMOICS ECON 203 taught by Professor Josephpetry during the Spring '10 term at University of Illinois, Urbana Champaign.

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Budget Constraint Handout - Add this budget constraint to...

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