Answer Happy

Problem 6: Income and Substitution Effects (7 points) Now imagine that Stella's friend Monique has $60 per week to spend on burritos and salads. The price of a burrito is $10, and the price of a salad is $6. a. Graph Monique's budget constraint for burritos and salads. Use the same format as the graph in Problem 4, with burritos on the y axis and salads on the x axis. Label this BC1. b. Now suppose that the price of a burrito increases to $12. Graph her new budget constraint and label it BC2.

When the price of a burrito increases to $12, we can apply the concepts of the income and substitution effects to predict how the price increase will impact Monique's consumption of burritos and salads. Remember: A change in price of a good causes two potential effects on consumption. For the income effect, think about how her effective wealth has changed with the higher burrito price. For the substitution effect, think about how she might substitute away from the relatively more expensive good and towards the other good. d. According to the income effect, Monique will consume | Select] ✓burritos and [ Select] According to the substitution effect, Monique will consume [ Select] ✓burritos and | Select] consume salads. Putting the two effects together, we can conclude that Monique will [Select] ✓ burritos and [Select] ✓ salads. [Select] ✓salads. e. After the price change, Monique will move to a [Select] ✓indifference curve, and her utility will

Problem 4: The Budget Constraint (3 points) Suppose the graph below represents Stella's budget constraint. Burritos 486 10154 123 2 3 6 10 a. Stella can afford a maximum of salads. 10 P Salads burritos or b. If the price of a burrito is $10, how much does Stella have to spend on these two items? c. If Stella's budget is $60, what must be the price of a salad? $