MEMO CLASS EXCERCISES AND ACTIVITIES – CHAPTER 3

CLASS EXCERSISES (at the back of the textbook)

QUESTION 2 (Covered in Tuesday session)
Draw indifference curves that represent the following individuals’ preferences for hamburgers
and soft drinks. Indicate the direction in which the individuals’ satisfaction (or utility) is
increasing.
a. Joe has convex preferences and dislikes both hamburgers and soft drinks.
Since Joe dislikes both goods, he prefers less to more, and his satisfaction is increasing in the
direction of the origin. Convexity of preferences implies his indifference curves will have the normal
shape in that they are bowed towards the direction of increasing satisfaction. Convexity also implies
that given any two bundles between which the Joe is indifferent, any linear combination of the two
bundles will be in the preferred set, or will leave him at least as well off. This is true of the
indifference curves shown in the diagram below.

Jane loves hamburgers and dislikes soft drinks. If she is served a soft drink, she will pour it
b.
down the drain rather than drink it.
Since Jane can freely dispose of the soft drink if it is given to her, she considers it to be a neutral
good. This means she does not care about soft drinks one way or the other. With hamburgers on the
vertical axis, her indifference curves are horizontal lines. Her satisfaction increases in the upward
direction.

Bob loves hamburgers and dislikes soft drinks. If he is served a soft drink, he will drink it to be
c.
polite.
Since Bob will drink the soft drink in order to be polite, it can be thought of as a “bad.” When served
another soft drink, he will require more hamburgers at the same time in order to keep his satisfaction
constant. More soft drinks without more hamburgers will worsen his utility. More hamburgers and
fewer soft drinks will increase his utility, so his satisfaction increases as we move upward and to the
left.
 Molly loves hamburgers and soft drinks, but insists on consuming exactly one soft drink for
d.
every two hamburgers that she eats.
Molly wants to consume the two goods in a fixed proportion so her indifference curves are
L-shaped. For a fixed amount of one good, she gets no extra satisfaction from having more of the
other good. She will only increase her satisfaction if she has more of both goods.

QUESTION 10 (Covered in Thursday session)

Antonio buys five new college textbooks during his first year at school at a cost of R800 each.
Used books cost only R500 each. When the bookstore announces that there will be a 10%
increase in the price of new books and a 5% increase in the price of used books, Antonio’s
father offers him R400 extra.
What happens to Antonio’s budget line? Illustrate the change with new books on the vertical
a.
axis.

In the first year Antonio spends R800 each on 5 new books for a total of R4000. For the same amount
of money, he could have bought 8 used textbooks. His budget line is therefore 800N + 500U = 4000,
where N is the number of new books and U is the number of used books. After the price change, new
books cost R880, used books cost R525, and he has an income of R4400. If he spends all of his
income on new books, he can still afford to buy 5 new books, but he can now afford to buy 8.4 used
books if he buys only used books. The new budget line is 880N + 525U = 4400. The line has rotated
out to the right and become slightly flatter as shown in the diagram.
b. Is Antonio worse or better off after the price change? Explain.
The first year he bought 5 new books at a cost of R800 each, which is a corner solution. The new
price of new books is R880 and the cost of 5 new books is now R4400. The R400 extra income will
cover the price increase. Antonio is definitely not worse off since he can still afford the same number
of new books. He may in fact be better off if he decides to switch to some used books, although the
slight shift in his budget line suggests that the new optimum will most likely be at the same corner
solution as before.

CLASS ACTIVITY 1 (Questions Counting towards participation mark)

QUESTIONS (Covered in Thursday session)

Multiple Choice Questions

A consumer prefers basket A to basket B, and basket B to basket C. Therefore, A is preferred

1.
to C. The assumption that leads to this conclusion is?

A. Transitivity
B. Completeness
C. All goods are good.
D. Diminishing DMRS

Food is measured on the horizontal axis and clothing on the vertical axis, the price of food
2.
falls relative to that of clothing, the budget line will?

A. Shift outward
B. Become flatter
C. Become steeper
D. Become steeper or flatter depending on the relationship between prices and income.

An individual consumes only two goods, X and Y. Which of the following expressions
3.
represents the utility maximizing market basket?

A. MRS is at a maximum
B. Px/Py = money income
C. MRS = money income
D. MRS = Px/Py
Longer Questions
Andy derives utility from two goods, potato chips (Qp) and Cola (Qc). The marginal utility that
he receives from the two goods is given as follows:

4.

What is the total utility that Andy will receive if he consumes 5 units of potato chips (Qp) and
no Cola drink (Qc)?
TU(p) = ∑ 𝑀𝑈𝑝
TU for 5 units of potato chips = 12+10+8+6+4 = 40 utils
 Suppose that Bridget spends her incomes on two goods, food (F) and clothing (C) and her
5. preferences are represented by U(F,C) = 10FC. What market bundle(s) will be situated on an
indifference curve with level of utility of U = 500.
If U = 500 then the preferences are represented by 500 = 10FC. Find combinations of F and C that
satisfy this equation. E.g. f = 25 c = 2 (25, 2); (50, 1); (12.5, 4); (2, 25); (1, 50).

HOMEWORK ACTIVITIES

QUESTION 14
Connie has a monthly income of R200 that she allocates among two goods: meat and potatoes
a. Suppose meat costs R4 per pound and potatoes R2 per pound. Draw her budget constraint.

Let M  meat and P  potatoes. Connie’s budget constraint is

4M  2P  200, or
M  50  0.5P
As shown in the graph below, with M on the vertical axis, the vertical intercept is 50 pounds of
meat. The horizontal intercept may be found by setting M  0 and solving for P. The horizontal
intercept is therefore 100 pounds of potatoes.

Suppose also that her utility function is given by the equation 100 = 2M + P. What combination
b. of meat and potatoes should she buy to maximize her utility? (Hint: Meat and potatoes are
perfect substitutes.)

When the two goods are perfect substitutes, the indifference curves are linear. To find the slope of
the indifference curve, U  100, then 2M  P  100, or M  50  0.5P. Therefore, Connie’s budget
line and her indifference curves have the same slope (equilibrium). Connie’s utility is equal to 100
when she buys 50 pounds of meat and no potatoes or no meat and 100 pounds of potatoes. The
indifference curve for U  100 coincides with her budget constraint. Possible combinations to satisfy
equation (25, 50); (20, 60); (10, 80); (0, 100); (50, 0).