Gentle Charlie vegetarian that he is continues to consume apples Gentle Charlie, vegetarian that he.

Gentle Charlie vegetarian that he is continues to consume apples

Gentle Charlie, vegetarian that he is, continues to consume apples and bananas. His utility function is U(xA, xB) = xAxB. The price of apples is $1, the price of bananas is $2, and Charlie’s income is $40 a day. The price of bananas suddenly falls to $1.

(a) Before the price change, Charlie consumed _____ apples and _____ bananas per day. On the graph below, use black ink to draw Charlie’s original budget line and put the label A on his chosen consumption bundle.

(b) If, after the price change, Charlie’s income had changed so that he could exactly afford his old consumption bundle, his new income would have been _____. With this income and the new prices, Charlie would consume _____ apples and _____ bananas. Use red ink to draw the budget line corresponding to this income and these prices. Label the bundle that Charlie would choose at this income and the new prices with the letter B.

(c) Does the substitution effect of the fall in the price of bananas make him buy more bananas or fewer bananas? _____. How many more or fewer? 5 more.

(d) After the price change, Charlie actually buys 20 apples and _____bananas. Use blue ink to draw Charlie’s actual budget line after the price change. Put the label C on the bundle that he actually chooses after the price change. Draw 3 horizontal lines on your graph, one from A to the vertical axis, one from B to the vertical axis, and one from C to the vertical axis. Along the vertical axis, label the income effect, the substitution effect, and the total effect on the demand for bananas. Is the blue line parallel to the red line or the black line that you drew before? _____

(e) The income effect of the fall in the price of bananas on Charlie’s demand for bananas is the same as the effect of an (increase, decrease) _____in his income of $ _____per day. Does the income effect make him consume more bananas or fewer? _____. How many more or how many fewer? 5 _____.

(f) Does the substitution effect of the fall in the price of bananas make Charlie consume more apples or fewer? _____. How many more or fewer? 5 _____. Does the income effect of the fall in the price of bananas make Charlie consume more apples or fewer? _____. What is the total effect of the change in the price of bananas on the demand for apples? _____.

Gentle Charlie vegetarian that he is continues to consume apples

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