Kapitel 2: Comparative statistics of consumer behavior

Question 1

Marshallian demand function

Answer 1

Question 2

Diagram: Marshallian demand for x1

Answer 2

Question 3

Income consumption curve

Answer 3

The income consumption curve is the set of optimal points traced out as income varies and prices remain constant.
It is the locus of all tangency points between the indifference curves and the varying budget lines.
We say that a good is normal if ∂Di/∂M ≥ 0. Otherwise, it is inferior.
Notice that inferiority is a local property and not all goods can be inferior.

Question 4

Price consumption curve

Answer 4

The price consumption curve is the set of optimal points traced out as the price of one good varies while all other prices and income remain constant.

We say that a good is ordinary if ∂Di/∂pi ≤ 0. Otherwise, it is a Giffen good.

Question 5

Income and substitution effects

Answer 5

Suppose the price of good i falls. This has two effects:
-> Change in relative prices: The opportunity cost of good i measured in units of any other good is now lower.
-> Increase in real income: It reduces the expenditure required to achieve the same utility level as before the change, allowing to increase utility at the same expenditure level.

The total change in the quantity of good i demanded can be decomposed as follows.
-> Substitution effect: the change resulting solely from the change in relative prices with utility held constant (this means that nominal income has to be adjusted).
-> Income effect: the change resulting solely from the change in real income with relative prices held constant.

Question 6

Slutsky decomposition

Answer 6

Slutsky suggested that constant real income could be measured as constant purchasing power, or the ability to purchase the bundle of goods bought before the price change.

Question 7

Compensating variation

Answer 7

The compensating variation (CV) in income is the change in M which makes the consumer just as well off after the price change as before.