Question 15
15. Bruno can spend his income on two different goods: smoothies and energy bars. For each of
the following three situations, decide if the given consumption bundle is within Bruno’s
consumption possibilities. Then decide if it lies on the budget line or not.
a. Smoothies cost $2 each, and energy bars cost $3 each. Bruno has income of $60. He is
considering a consumption bundle containing 15 smoothies and 10 energy bars.
b. Smoothies cost $2 each, and energy bars cost $5 each. Bruno has income of $110. He is
considering a consumption bundle containing 20 smoothies and 10 energy bars.
c. Smoothies cost $3 each, and energy bars cost $10 each. Bruno has income of $50. He is
considering a consumption bundle containing 10 smoothies and 3 energy bars.
Solution 15
Question 16
16. Bruno, the consumer in Problem 15, is best friends with Bernie, who shares his love for
energy bars and smoothies. The accompanying table shows Bernie’s utilities from smoothies
and energy bars.
Quantity of smoothies
Utility
from
smoothie
s (utils)
Quantit
y of
energy
bars
Utility from
energy bars
(utils)
0
0
0
0
1
32
2
28
2
60
4
52
3
84
6
72
4
104
8
88
5
120
10
100
The price of an energy bar is $2, the price of a smoothie is $4, and Bernie has $20 of income
to spend.
a. Which consumption bundles of energy bars and smoothies can Bernie consume if he spends
all his income? Illustrate Bernie’s budget line with a diagram, putting smoothies on the
horizontal axis and energy bars on the vertical axis.
b. Calculate the marginal utility of each energy bar and the marginal utility of each smoothie.
Then calculate the marginal utility per dollar spent on energy bars and the marginal utility
per dollar spent on smoothies.
c. Draw a diagram like Figure 10-4 in which both the marginal utility per dollar spent on
energy bars and the marginal utility per dollar spent on smoothies are illustrated. Draw the
quantity of energy bars increasing from left to right, and the quantity of smoothies
increasing from right to left. Using this diagram and the utility-maximizing principle of
marginal analysis, predict which bundle—from all the bundles on his budget line—Bernie
will choose.
Solution 16
16.
Question 17
17. For each of the following situations, decide whether the bundle Lakshani is considering is
optimal or not. If it is not optimal, how could Lakshani improve her overall level of utility?
That is, determine which good she should spend more on and which good she should spend
less on.
a. Lakshani has $200 to spend on sneakers and sweaters. Sneakers cost $50 per pair, and
sweaters cost $20 each. She is thinking about buying 2 pairs of sneakers and 5 sweaters.
She tells her friend that the additional utility she would get from the second pair of
sneakers is the same as the additional utility she would get from the fifth sweater.
b. Lakshani has $5 to spend on pens and pencils. Each pen costs $0.50 and each pencil costs
$0.10. She is thinking about buying 6 pens and 20 pencils. The last pen would add five
times as much to her total utility as the last pencil.
c. Lakshani has $50 per season to spend on tickets to football games and tickets to soccer
games. Each football ticket costs $10 and each soccer ticket costs $5. She is thinking about
buying 3 football tickets and 2 soccer tickets. Her marginal utility from the third football
ticket is twice as much as her marginal utility from the second soccer ticket.
Solution 17
Question 18
18. Cal “Cool” Cooper has $200 to spend on Nikes and sunglasses.
a. Each pair of Nikes costs $100 and each pair of sunglasses costs $50. Which bundles lie on
Cal’s budget line? Draw a diagram like Figure 10-4 in which both the marginal utility per
dollar spent on Nikes and the marginal utility per dollar spent on sunglasses are illustrated.
Draw the quantity of Nikes increasing from left to right, and the quantity of sunglasses
increasing from right to left. Use this diagram and the utility-maximizing principle of
marginal analysis to decide how Cal should allocate his money. That is, from all the
bundles on his budget line, which bundle will Cal choose? The accompanying table gives
his utility of Nikes and sunglasses.
Quantity of
Nikes (pairs)
Quantity of
sunglasses
(pairs)
Utility from
sunglasses
(utils)
0
0
0
1
2
600
2
4
700
b. The price of a pair of Nikes falls to $50 each, but the price of sunglasses remains at $50 per
pair. Which bundles lie on Cal’s budget line? Draw a diagram like Figure 10-4 in which
both the marginal utility per dollar spent on Nikes and the marginal utility per dollar spent
on sunglasses are illustrated. Use this diagram and the utility-maximizing principle of
marginal analysis to decide how Cal should allocate his money. That is, from all the
bundles on his budget line, which bundle will Cal choose? The accompanying table gives
his utility of Nikes and sunglasses.
Quantit
y of
Nikes
(pairs)
Utility from
Nikes (utils)
Quantity of
sunglasses
(pairs)
Utility from
sunglasses
(utils)
0
0
0
0
1
400
1
325
2
700
2
600
3
900
3
825
4
1,000
4
700
c. How does Cal’s consumption of Nikes change as the price of Nikes falls? In words,
describe the income effect and the substitution effect of this fall in the price of Nikes,
assuming that Nikes are a normal good.
Solution 18
Question 19
19. Anna Jenniferson is an actress who currently spends several hours each week watching
movies and going to the gym. On the set of a new movie she meets Damien, another actor on
the set. She tells him that she likes watching movies much more than going to the gym. In
fact, she says that if she had to give up seeing 1 movie, she would need to go to the gym twice
to make up for the loss in utility from not seeing the movie. A movie takes 2 hours, and a gym
visit also lasts 2 hours. Damien tells Anna that she is not watching enough movies. Is he
right?
Solution 19
Question 20
20. In each of the following situations, describe the substitution effect and, if it is significant, the
income effect. In which direction does each of these effects move? Why?
a. Ed spends a large portion of his income on his children’s education. Because tuition fees
rise, one of his children has to withdraw from college.
b. Homer spends much of his monthly income on home mortgage payments. The interest on
his adjustable-rate mortgage falls, lowering his mortgage payments, and Homer decides to
move to a larger house.
c. Pam thinks that Spam is an inferior good. Yet as the price of Spam rises, she decides to
buy less of it.
Solution 20
Question 21
21. Restaurant meals and housing (measured in the number of rooms) are the only two goods that
Neha buys. She has income of $1,000. Initially, she buys a consumption bundle such that she
spends exactly half her income on restaurant meals and the other half of her income on
housing. Then her income increases by 50%, but the price of restaurant meals increases by
100% (it doubles). The price of housing remains the same. After these changes, if she wanted
to, could Neha still buy the same consumption bundle as before?
Solution 21
Question 22
WORK IT OUT Interactive step-by-step help with solving these problems can be found
online.
22. Hiro owns and operates a small business that provides economic consulting services. During
the year he spends $57,000 on travel to clients and other expenses. In addition, he owns a
computer that he uses for business. If he didn’t use the computer, he could sell it and earn
yearly interest of $100 on the money created through this sale. Hiro’s total revenue for the
year is $100,000. Instead of working as a consultant for the year, he could teach economics at
a small local college and make a salary of $50,000.
a. What is Hiro’s accounting profit?
b. What is Hiro’s economic profit?
c. Should Hiro continue working as a consultant, or should he teach economics instead?
Solution 22
Question 23
23. Brenda likes to have bagels and coffee for breakfast. The accompanying table shows
Brenda’s total utility from various consumption bundles of bagels and coffee.
Consumption
bundle
Quantity of bagels
Quantity of coffee
(cups)
Total utility (utils)
0
0
0
0
2
28
0
4
40
1
2
48
1
3
54
2
0
28
2
2
56
3
1
54
3
2
62
4
0
40
4
2
66
Suppose Brenda knows she will consume 2 cups of coffee for sure. However, she can choose
to consume different quantities of bagels: she can choose either 0, 1, 2, 3, or 4 bagels.
a. Calculate Brenda’s marginal utility from bagels as she goes from consuming 0 bagels to 1
bagel, from 1 bagel to 2 bagels, from 2 bagels to 3 bagels, and from 3 bagels to 4 bagels.
b. Draw Brenda’s marginal utility curve of bagels. Does Brenda have diminishing marginal
utility of bagels? Explain.
c. Brenda has $8 of income to spend on bagels and coffee. Bagels cost $2 each, and coffee
costs $2 per cup. Which bundles are on Brenda’s budget line? For each of these bundles,
calculate the level of utility (in utils) that Brenda enjoys. Which bundle is her optimal
bundle?
d. The price of bagels increases to $4, but the price of coffee remains at $2 per cup. Which
bundles are now on Brenda’s budget line? For each bundle, calculate Brenda’s level of
utility (in utils). Which bundle is her optimal bundle?
e. What do your answers to parts c and d imply about the slope of Brenda’s demand curve
for bagels? Describe the substitution effect and the income effect of this increase in the
price of bagels, assuming that bagels are a normal good.
Solution 23