Department of Economics
EC-201 A1 – Intermediate Microeconomics
Prof. Regina Celia Cati (Email: [email protected]
Problem Set #2
Chapter 4: Consumer Theory
1) What happens to the budget line if the government applies a specific tax of $1 per gallon on gasoline but
doesn’t tax other goods? What happens to the budget line if the tax applies only to purchases of gasoline in
excess of 10 gallons per week? Represent with diagrams.
2) Suppose a Canadian who lives equally close to gas stations in the US and Canada. Gasoline can be more
expensive over time in one country than in the other due to taxes and, sometimes, prices are also the same.
How do you expect to be the gasoline-purchasing behavior of this consumer? Answer using an indifference
curve and a budget line diagram.
3) Federal housing assistance programs provide allowances that can only be spent on housing. Several
empirical studies find that recipients increase their non-housing expenditures by 10% to 20%. Show that
recipients might (but do not necessarily) increase their spending on non-housing, depending on their tastes.
4) A consumer purchases only two goods, apples (a) and oranges (o). The consumer has income of $40 and
can buy apples at $2 per pound and oranges at $4 per pound. The consumer utility function is ( )
. What bundle maximizes utility?
5) A consumer’s utility function is ( ) The price of is the price of
and income is = $150. Find the optimal bundle.
6) The utility function of a consumer is( ) where are burgers per week and packs of cigarettes
per week. Income is = $120, = $2 and = $1. What is the bundle consumed weekly? What happens
when price of a burger raises to $3?
Chapter 5: Applying Consumer Theory
1) Derive and plot the demand curve for Coke of a consumer that views Coke and Pepsi as perfect substitutes.
2) A consumer views coffee and donuts as perfect complements. Derive the consumer’s demand for donuts
and the Engel curve for donuts.
3) A consumer spends all his money on food and clothing. When the price of clothing decreases, he buys
more clothing. Does the substitution effect cause him to buy less or more clothing? Does the income effect cause him to buy more or less clothing? Represent in a diagram and explain, if some effect is ambiguous
4) A consumer spends her money on food and