2) Suppose Kelvin receives RM400 allowance a month and he only spends on other goods and food. In the first year, the price of food is RM4 per kg and the price of other goods is RM1 per unit. His utility function is U-20√GF, where G represents other goods and F represents food. In the second year, prices of both commodities increased by RM1 each due to tax. a) Assuming Kelvin maximizes his utility subject to his allowance, how much food and other goods were consumed in the first year? b) In the second year, if his allowance did not increase, how will this affect his food, other goods consumption, and his utility? c) Suppose he received rebates that reflect the true cost of living (an inflation index that holds utility constant over time: ideal cost of living), what is his level of food and other goods consumption under this circumstance? How much compensation did he receive? d) If Kelvin was given a rebate such that he could still enjoy his bundle of goods in the first year, how much additional compensation should be given to Kelvin?
2) Suppose Kelvin receives RM400 allowance a month and he only spends on other goods and food. In the first year, the price of food is RM4 per kg and the price of other goods is RM1 per unit. His utility function is U-20√GF, where G represents other goods and F represents food. In the second year, prices of both commodities increased by RM1 each due to tax. a) Assuming Kelvin maximizes his utility subject to his allowance, how much food and other goods were consumed in the first year? b) In the second year, if his allowance did not increase, how will this affect his food, other goods consumption, and his utility? c) Suppose he received rebates that reflect the true cost of living (an inflation index that holds utility constant over time: ideal cost of living), what is his level of food and other goods consumption under this circumstance? How much compensation did he receive? d) If Kelvin was given a rebate such that he could still enjoy his bundle of goods in the first year, how much additional compensation should be given to Kelvin?
Chapter10: Consumer Choice Theory
Section: Chapter Questions
Problem 8P
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Question
Transcribed Image Text:2) Suppose Kelvin receives RM400 allowance a month and he only spends on other goods and
food. In the first year, the price of food is RM4 per kg and the price of other goods is RM1 per
unit. His utility function is U-20√GF, where G represents other goods and F represents food. In
the second year, prices of both commodities increased by RM1 each due to tax.
a) Assuming Kelvin maximizes his utility subject to his allowance, how much food and other
goods were consumed in the first year?
b) In the second year, if his allowance did not increase, how will this affect his food, other goods
consumption, and his utility?
c) Suppose he received rebates that reflect the true cost of living (an inflation index that holds
utility constant over time: ideal cost of living), what is his level of food and other goods
consumption under this circumstance? How much compensation did he receive?
d) If Kelvin was given a rebate such that he could still enjoy his bundle of goods in the first year,
how much additional compensation should be given to Kelvin?
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