Coursenotes_ECON301

# 2 py y is the market value of endowments in good y

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Unformatted text preview: X + Y - PX X PY PY so that the new budget line is a straight line with... slope = - _PX_ 0 PY and vertical intercept = __PX_ X + Y PY When the consumer's income is defined in terms of endowments, as the price of good X goes up, ceteris paribus, the budget line rotates around the endowment point (X , Y) instead of the vertical intercept. 90 Y (PX / PY) X + Y Y Endowment Point Y = (PX / PY) X + Y - (PX / PY) X BL2 X BL1 X So let me explain the difference between the concept of exogenous income, M, and the endowment income, Me. Before, we were studying the theory of consumer equilibrium in a selfcontained framework where the consumer's income was exogenously fixed (exogenous = determined from outside the modeling process). In that case, we were concerned only with the optimizing behavior of a single consumer without any relationship to other consumers or producers in the economy. Now, in general equilibrium theory, we are studying the optimizing behavior of a consumer in the context of the inter relationship with other consumers and producers. We go one step further to endogenize the consumer income (endogenous = determined within the modeling process). That is, the endowment income now depends on both the market prices (PX and PY) and the original endowment points (X , Y). When prices change, the endowment income also changes and hence, the consumer decisions also must change accordingly. In other words, the concept of endowment income provides an added dimension to the interaction among agents in the economy. RELATIVE PRICES Microeconomics uses the notion of a price ratio to express the relative magnitude of the prices of two or more goods. For example, the theory of consumer equilibrium equates the marginal rate of substitution with the price ratio of two goods: 91 MRS = PX PY while the theory of producer equilibrium equates the marginal rate of technical substitution with the price ratio of the two factors: MRTS = r / w Thus, given a set of prices (PX , PY , r , w) we can choose the price of any of the following goods or fac...
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## This note was uploaded on 05/25/2010 for the course ECON 301 taught by Professor Sning during the Spring '10 term at University of Warsaw.

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