14.

01 Fall 2010

Problem Set 2 Solutions

1. (10 points) Annie and David are painting their apartment. At the paint store, David says he prefers
Canary Yellow to Bumblebee Yellow, Lime Yellow, and Crayola Yellow. Annie nds new paint samples
and asks David to compare Canary Yellow to School Bus Yellow and to Sunrise Yellow. David prefers
Sunrise Yellow to Canary Yellow, and prefers School Bus Yellow to Canary Yellow. He also prefers
Sunrise Yellow to School Bus Yellow. The store is out of Sunrise Yellow, so they buy School Bus Yellow
and paint their apartment with it. David then insists that they go back, buy Lime Yellow, and repaint
the apartment.
True/False/Uncertain: David has rational preferences (as we dene them).

False. He violates transitivity.

Problem 1 solution courtesy of William Wheaton. Used with permission.

2. (20 points) In each of the following examples, a consumer purchases just two goods: x and y. Based on
the information in each of the following parts, sketch a plausible set of indierence curves (that is, draw
at least two curves on a set of labeled axes, and indicate the direction of higher utility). Also, write
down a utility function u(x, y) consistent with your graph. Note that although all these preferences
should be assumed to be complete and transitive (as required for utility representation), not all will be
monotone.
(a) (4 points) Jessica enjoys bagels x and coee y, and consuming more of one makes consuming the
other more enjoyable.

(b) (4 points) Plamen loves mocha swirl ice cream x, but he hates mushrooms y.

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(c) (4 points) Jennifer likes Cheerios x, and neither likes nor dislikes Frosted Flakes y.

(d) (4 points) Edward always buys three white tank tops x for every pair of jeans y.

(e) (4 points) Nancy likes both peanut butter x and jelly y, and always gets the same additional
satisfaction from an ounce of peanut butter as she does from two ounces of jelly.

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3. (20 points) A consumers preferences are representable by the following utility function:
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u(x, y) = x 2 + y.

(a) (10 points) Obtain the MRS of the consumer at an arbitrary point (x, y), where x > 0 and y > 0.

1 12
2x 1 1
M RS = = x 2
1 2
(b) (10 points) Suppose the price of the second good (y) is 1, and the price of the rst good (x) is
denoted by p > 0. If the consumers income is m > 0, obtain the optimal consumption bundle of
the consumer (in terms of m and p). [Caution: make sure you cover cases in which m is relatively
low, as well as cases in which m is relatively high.]
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The consumer solves max x 2 + y so that px + y = m. We look for stationary values of the
1
Lagrangian L = x 2 + y + (m px y). The rst-order conditions for stationarity are

L 1 1
= x 2 p = 0
x 2
L
=1=0
y
L
= m px y = 0

1 1
Combining the rst two equations above gives 1 = p, or x = 4p2 . Substituting x into the
2x 2
1
budget constraint gives y = m px = m 4p .
1 1 1
Case 1) m 4p x = 4p2 and y = m 4p 0.
1 m
Case 2) m 4p x = p and y = 0.
Graphically, y

x
(0, 0)

(m/p, 0)

Image by MIT OpenCourseWare.

4. (25 points) It is exactly 24 hours before Laurens physics nal. She has an economics nal directly after
the physics nal and has no time to study in between. Lauren wants to be a physicist, so she places
more weight on her physics test score. Her utility function is given by

u(p, e) = 0.6 ln(p) + 0.4 ln(e)

where p is the score on the physics nal and e is the score on the economics nal. Although she cares
more about physics, she is better at economics; for each hour spent studying economics she will increase
her score by 3 points, but her physics score will only increase by 2 points for every hour spent studying
physics. Studying zero hours results in a score of zero on both subjects (although ln(0) is not dened,
assume her utility for a score of zero is negative innity).

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(a) (5 points) What constraints does Lauren face in her test score maximization problem?

Hp + He 24
Hp 0, He 0

One might also consider production constraints:

p = 2Hp , e = 3He

(b) (5 points) How many hours should Lauren optimally spend studying physics? How many hours
studying economics? (hours are divisible)

max 0.6 ln(2 (24 He )) + 0.4 ln(3He )

(c) (5 points) What economics and physics test scores will she achieve (i.e. what are e and p )?

e = 3He = 28.8
p = 2Hp = 28.8

(d) (5 points) What utility level will she achieve?

u(p, e) = 0.6 ln(p) + 0.4 ln(e) = 3.36

(e) (5 points) Suppose Lauren can get an economics tutor. If she goes to the tutor, she will increase
her economics test score by 5 points for every hour spent studying instead of 3 points, but will
lose 4 hours of study time by going to the tutor. She cannot study while at the tutor, and going
to the tutor does not directly improve her test score. Should Lauren go to the tutor?

max 0.6 ln(2 (20 He )) + 0.4 ln(5 He )

Lauren has higher utility when she goes to the tutor, so she should go.

Problem 4 solution courtesy of William Wheaton. Used with permission.

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14.01SC Principles of Microeconomics

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