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Solving%202%20with%20explanation.pdf

The consumer aims to maximize utility represented by the function U(x, y) = 5x + ln(1 + 2y) under the budget constraint 5x + 8y = 100. The marginal rate of substitution (MRS) is calculated as MRSxy = (5 + 10y) / 2, and the optimal consumption bundle is found to be x = 20 and y = 0, indicating the consumer should spend all income on good X. This analysis shows that the consumer values good X more than good Y at the given prices.

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2 views

Solving%202%20with%20explanation.pdf

The consumer aims to maximize utility represented by the function U(x, y) = 5x + ln(1 + 2y) under the budget constraint 5x + 8y = 100. The marginal rate of substitution (MRS) is calculated as MRSxy = (5 + 10y) / 2, and the optimal consumption bundle is found to be x = 20 and y = 0, indicating the consumer should spend all income on good X. This analysis shows that the consumer values good X more than good Y at the given prices.

Uploaded by

zaed-2023817061
Copyright
© © All Rights Reserved
Available Formats
Download as PDF, TXT or read online on Scribd
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A consumer has a utility function for two commodities X and Y: U(x, y) = 5x + ln(1 + 2y)

The prices are px = 5, py = 8, and income (M) = 100.

i. Write down the objective function.


The objective of the consumer is to maximize their utility. The utility function is given by:
Objective Function: Maximize U(x, y) = 5x + ln(1 + 2y)

ii. Find the budget constraint.


The budget constraint represents the limit on what the consumer can afford given their income
and the prices of the goods. It states that the total expenditure on goods X and Y must be less
than or equal to the consumer's income.
The expenditure on good X is px * x = 5x. The expenditure on good Y is py * y = 8y. The total
income is M = 100.
Therefore, the Budget Constraint is: 5x + 8y ≤ 100 Assuming the consumer spends all their
income to maximize utility, we can write the budget constraint as: 5x + 8y = 100

iii. Compute the marginal rate of substitution (MRS).


The marginal rate of substitution (MRS) represents the rate at which a consumer is willing to
give up one good to obtain one more unit of another good while maintaining the same level of
utility. It is the absolute value of the ratio of the marginal utility of X (MUx) to the marginal utility
of Y (MUy).
First, we need to find the marginal utilities:
● Marginal Utility of X (MUx): This is the partial derivative of the utility function with respect
to x. MUx = ∂U/∂x = ∂(5x + ln(1 + 2y))/∂x = 5
● Marginal Utility of Y (MUy): This is the partial derivative of the utility function with respect
to y. MUy = ∂U/∂y = ∂(5x + ln(1 + 2y))/∂y = (1/(1 + 2y)) * 2 = 2/(1 + 2y)
Now, we can compute the MRS: MRSxy = MUx / MUy = 5 / (2/(1 + 2y)) = 5 * (1 + 2y) / 2 = (5 +
10y) / 2

iv. Derive the consumer's optimal consumption bundle for both commodities (X and Y).
At the optimal consumption bundle, the MRS is equal to the ratio of the prices of the two goods
(px/py). This is the condition for consumer equilibrium.
MRSxy = px / py (5 + 10y) / 2 = 5 / 8
Now, we solve for y: 8 * (5 + 10y) = 2 * 5 40 + 80y = 10 80y = 10 - 40 80y = -30 y = -30 / 80 y =
-3/8
However, the quantity of a good consumed cannot be negative. This result suggests a corner
solution. Let's analyze the situation.
The MRSxy = (5 + 10y) / 2 is always positive for y ≥ 0. The price ratio px/py = 5/8.
If y = 0, then MRSxy = (5 + 10*0) / 2 = 5/2 = 2.5. Since MRSxy (2.5) > px/py (0.625) at y = 0, the
consumer values an additional unit of X more than an additional unit of Y at this point, relative to
their prices. This indicates that the consumer should consume more of X and less of Y.
Given the utility function U(x, y) = 5x + ln(1 + 2y), the marginal utility of X is constant (MUx = 5),
while the marginal utility of Y (MUy = 2/(1 + 2y)) decreases as y increases.
Consider the case where the consumer spends all their income on good X (y = 0). From the
budget constraint: 5x + 8(0) = 100 5x = 100 x = 20
In this case, the utility is U(20, 0) = 5(20) + ln(1 + 2*0) = 100 + ln(1) = 100 + 0 = 100.
Now consider if the consumer consumes a very small amount of Y. To do this, let's go back to
the equilibrium condition and recognize the implication of the negative y we found.
The condition MRSxy = px/py implies that the consumer is willing to trade (5 + 10y)/2 units of Y
for one unit of X. The market rate of trade-off is px/py = 5/8 units of Y for one unit of X.
Since (5 + 10y)/2 > 5/8 for y ≥ 0, the consumer always values X more at the margin relative to
its price. Therefore, the consumer will maximize their utility by spending all their income on good
X.
So, the optimal consumption bundle is where y = 0. Substituting this into the budget constraint:
5x + 8(0) = 100 5x = 100 x = 20
Therefore, the consumer's optimal consumption bundle is: x = 20 and y = 0

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