Quiz3_F10_Key - $80 with the membership. Therefore, her...

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3550 F10 Quiz 3 Last Name: First Name: 1 1. (10) Suppose that the Margie spends her monthly income of $90 on books and “all other goods (AOG)”. The price of book is $5 and the price of “all other goods” is normalized to $1. She currently maximizes her utility by buying 10 books and 40 AOG. Emazon.com, the internet book store, provides a new membership plan for a $10 monthly fee. With the membership, the price of book is only $4. Consider an indifference curve-budget line diagram with books on the horizontal axis and “all other goods” on the vertical axis. a. (4) Draw Margie’s budget constraints both if she buys the membership and if she does not. b. (1) Will her budget line with the membership lie above, lie below, or pass through her initial optimum (10 books)? Explain your answer. The bundle (10 Books, 40 All Other Goods) costs Margie $90 without the membership and
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Unformatted text preview: $80 with the membership. Therefore, her budget line with the membership will pass through the bundle. c. (3) Determine whether Margie will buy the membership or not. Explain your answer. (Add indifference curves on the diagram from part “a” if needed.) Her MRS (or MV) at the bundle (10B, 40AOG) equals MC=PB/PAOG=$5/$1=5 (AOG). With the new price PB=$4, MV=5>MC=4. It means the initial bundle is not an optimum for her anymore. She can be better by buying more books and less all other goods. d. (2) If Margie decides to buy the membership, what will be her MRS (i.e. marginal value of a book) at her NEW optimal bundle? With the new price PB=$4, at the new bundle B, MRS (or MV)=MC=4 40 10 90 90/5=18 90 ‐ 10= 80 80/4=20 AOG Book Old I.C. New I.C....
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