David K.H. Begg, Gianluigi Vernasca-Economics-McGraw Hill Higher Education (2011)

CHAPTER 5 Consumer choice and demand decisions
(a) Suppose that the consumer consumes 30 kg of beans. Assuming that she spends all her income>
how many kg of peas is she going to consume?
(b) Assume that the price of peas falls from 40p to 20p. Assuming that the consumer still consumes
30 kg of beans> find the new quantity of peas.
( c) After the decrease in the price of peas to 20p, assume that the consumer is just as well off as she
was in (a) if she has an income of £7.60. However> with that income and the new price of peas>
she would have consumed 20 kg of beans. Find the quantity of peas she would have consumed
in this case.
( d) Find the substitution effect due to the decrease in the price of peas that is the difference between
The solution in (c) and the solution in (a).
(e) Find the income effect that is the difference between the solution in (b) and the solution in (c).
10 Suppose that Carl cannot tell the differences between a pack of British and a pack of Danish bacon.
In a graph with British bacon on the vertical axis, plot some of Carl's indifference curves for British
and Danish bacon. Suppose that Carl has an income of £20. The price of Danish bacon is £2 per
pack> while the price of British bacon is £4 per pack. In the same graph where you drew the
indifference curves, draw Carl's budget constraint and show his optimal bundle choice.
1 1 You begin with 5 coconuts and 5 fish. You can get extra fish by sacrificing 2 coconuts for each extra
fish> or get extra coconuts by sacrificing 1 fish for each extra coconut. (a) Draw your budget line.
(b) Draw an indifference map. (c) Where is it likely that you will choose to be? (d) Suppose there is
a small change in the number of fish you can swap for an extra coconut - is your behaviour likely
to change?
1 2 You can invest in a safe asset or in a risky asset or in both. The safe asset has a guaranteed return of
3 per cent a year. The risky asset has an expected return of 4 per cent but it could be as much as
8 per cent or as little as 0 per cent. You decide to have some of your wealth in each asset. Now the
expected return on the risky asset rises to 5 per cent; it could be as high as 9 per cent or as low as
1 per cent. Given the increase in the expected return on the risky asset> do you invest more of your
wealth in the risky asset?
1 3 Essay question We observe a person behaving differently in apparently similar situations. Either
the situations were not similar or the person is 'irrationar Which approach would an economist
take? Why? Is it realistic to think that we account for rational behaviour in every situation?
For solutions to these questions contact your lecturer.
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