ECON

104A Winter 2012 Instructor : Urmee Khan Midterm I Total points: 80 Total time: 80 minutes Answer all questions. Question 1 (i) Brenda likes hot dogs and Coca Cola. Hot dogs cost $1 each and Cokes cost $.50 per bottle. There is special promotion for coke for a month. If Brenda sends in the bottle tops from the cokes she drinks during the next month, she will get $.20 (20 cents) for every bottle cap beyond the first 12 that she returns. For eg., If she returns 25 bottle caps over the next month, she will get back $.20(25-12)=$2.60. Another way to think about this is to imagine that after 12 bottles, price of Coke falls by $0.20. Brenda has $40 to spend on hot dogs and Coke during the next month. Draw her budget set for the next month. Clearly label everything, and find out the points where the budget line hits the axes and the point(s) where budget line has kink(s), if there are any, and show them on the diagram. (10 points)

 (ii)

Write down the equation of a budget line with the quantities of two goods denoted by x1 and x2, with prices p1 and p2, and income m. Draw the budget set and label all the relevant points. What is the slope of the budget line? Consider this as the reference budget set. (4 points)

(iii) In the same diagram, draw a new budget line representing the situation when p1 goes up vis--vis the reference levels, but p2 and income remain unchanged. (2 points) (iv) In the same diagram, draw another budget line showing the situation when income goes up vis--vis the reference level, but p1 and p2 remain the same. (2 points) (v)Which one of (iii) or (iv) is consistent with the statement the consumers consumption possibilities have expanded? ( 2 points)

 Question 2 (i) Draw Indifference curves with quantities of pepperoni pizza on the horizontal axis and quantities of anchovy pizza on the vertical axis to illustrate the following situations: a. Marvin has monotonic and strictly convex preferences over the two types of pizzas. (2.5 points) b. Marvin hates pepperoni pizza and hates anchovy pizza but has strictly convex preferences. (2.5 points)

 c. Marvin hates anchovy pizza, but loves pepperoni pizza (2.5 points)

d. Marvin loves anchovy pizza, but is neutral towards pepperoni pizza (2.5 points)

 (ii)

JJ vs WW WW vs HH HH vs JJ Are the coachs preferences transitive? Explain. (2 points) If he had to choose one of the three players, which one would he choose? Explain. (2 points)

Coach Steroid likes his players to be big, fast and obedient. If player A is better than player B in two of the three chacteristics, Steroid will prefer A to B. Wilbur Wastinghouse weighs 320 pounds, runs very slowly, and is moderately obedient. Harold Hotpoint weighs 240 pounds, runs extremely fast, and is extremely disobedient. Jerry Jacuzzi weighs 150 pounds, runs at average speed and is extremely obedient. Write down for each of the following pairs, which player the coach prefers: (6 points)

Question 3 (i)True or False? Justify your answer. (a)Henriettas utility function is u(x1, x2) =x1x2 so she has diminishing marginal rate of substitution. (5 points) (b)The utility function u(x1, x2)=2ln(x1) +2ln(x2) represents the same preferences as a Cobb-Douglas function. ( Hint: think about monotonic transformations)(5 points)

b. u(x,y)=min{x,2y}

(ii)Draw indifference curves for the following utility functions for any arbitrary utility level K. ( 5+5 points) a. u(x,y)=x+2y

 Question 4 (i)For the following utility function, derive the Marshallian demand functions: (15 points) u(x1, x2) = 4(x1)0.5+x2

 (ii)Is the Engel curve upward or downward sloping for the demand curves you have derived? Are the goods normal goods?(2.5 points) (iii) Are the two goods substitutes or complements? How can you deduce it by looking at the demand functions? (2.5 points)