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Oldprelims PDF

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29 views5 pages

Oldprelims PDF

Uploaded by

6doit
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Some Old Prelim Questions

1. Mr. Green consumes two goods, X and Y . His utility function is


U (x, y) = ln (x + 2y

y2
)
2

where x is his consumption of X and y is his consumption of Y . Let Good X


be the numeraire with a price of 1 and let p be the price of Good Y . Let w be
Mr. Greens income and assume that w > 1.
A Ms. Blues preferences over bundles of X and Y are represented by the
utility function
y2
U (x, y) = x + 2y .
2
How do Ms Blues preference compare with Mr. Greens? Explain.
B Define homothetic preferences. Does Mr. Green have homothetic preferences? If so, prove it. If not, show that he does not.
C Define convex preferences. Show that Ms. Blue has convex preferences.
(In your proof feel free to use the fact that f (y) = 2y y 2 is a concave
function.) Does Mr. Green have convex preferences?
D Find Mr. Greens Walrasian demand functions x(p, w) and y(p, w) for the
two goods X and Y when the price of X is 1, the price of Y is p and
income is w. Be careful to specify demand at price-income combinations
that lead to a corner solution where Mr. Green buys no Y . Note: We
have made life easier for you by assuming that w > 1. This ensures that
there is no corner solution where Mr. Green buys no X. (For extra credit
if you have extra time, you could show that if w > 1, then x(p, w) > 0 for
all p > 0.)
E Find Mr. Greens indirect utility function v(p, w). (Be careful to specify
the indirect utility function for price-income combinations that lead to
corner solutions as well those that lead to as interior solutions.)
F What does Roys law tell us about the relation between the indirect utility function and the Walrasian demand function for Y . Verify by direct
calculation that Roys law is satisfied by Mr. Greens demand function for
Y.
G Find Mr. Greens expenditure function e(p, u) where the price of X is 1
and the price of Y is p.
H Find Mr. Greens Hicksian demand function hy (p, u) for commodity Y
where the price of X is 1 and the price of Y is p.

2. Consider a consumer who consumes three goods and has utility function
U (x1 , x2 , x3 ) = (x1 + b1 ) (x2 + b2 ) (x3 + b3 )
where bi 0 for i = 1, . . . 3 and where > 0, > 0, and > 0.
A) Why can you assume that + + = 1 without loss of generality?
B) Does this consumer have homothetic preferences? Explain
C) Does this consumer have additively separable preferences? Explain
D) Find this consumers demand function. Dont forget to account for corner
solutions if they exist.
E) Find this consumers indirect utility function and verify that Roys identity
holds in this case.
F) Find this consumers Hicksian demand function and the substitution matrix.
G) Consider an economy with two types of people. While their utility functions
are all of the form described above, they have different values of the bi s. Type
1 has b1 = b2 = b3 = 10 and Type 2 has b1 = 10, and b2 = b3 = 0. Persons of
Type 1 have incomes M1 and persons of type 2 have incomes M2 . If there are
100 people of each type, write an expression for the aggregate demand for good
1 as a function of the prices and incomes.
H) Suppose that initially prices and income are such that everybody buys positive amounts of all good. Income is redistributed from type 2s to type 1s and
after the income redistribution everyone is still buying positive amounts of all
goods. What can you say about the change in aggregate demand for good 1.
Explain your answer.
I) Suppose that the prices are p1 = p2 = p3 = 1. Find incomes M1 and M2
such that a transfer of income from type 1s to type 2s changes the aggregate
demand for good 1. Explain your answer.

3. Harry consumes just one commmodity and he will live for T periods. His current preferences over consumption streams are represented by a utility function
of the form
T
X
U (x1 , . . . , xT ) =
t u(xt )
t=1

where xt is the amount of the commodity that he will consume in year t and
where the function u() is strictly concave and twice continuously differentiable.
Harry knows that his income stream will be (w1 , . . . , wT ) where wt is the income
that he will receive in period t. Harry is able to borrow or lend at the constant
interest r. At time 1, Harry is able to commit himself to any time path of
consumption that satisfies his budget constraint. His budget constraint is that
the present value of his lifetime consumption must not exceed the present value
of his lifetime income stream.
Part 1) Suppose that for some where 0 < < 1, and for all t = 1, . . . T ,
t = t1 . At what interest rate will Harry will choose to consume the same
amount of goods in every period of his life? Explain why your answer is correct.
Does this interest rate depend on the time path of his income stream? At this
interest rate, what can you say about the way in which his borrowing and saving
behavior depend on the time path of his income stream.
Part 2) Suppose that 2 = 1 = 1 and that for t = 3, . . . T , t = t2 . Suppose
that at time 1, Harry can commit himself to a time path of future consumption.
Qualitatively, how does his time path of consumption depend on the interest
rate? For example, at what if any interest rates r > 0 is his consumption
first increasing, then constant, at what interest rates is his consumption always increasing, at what interest rates is his consumption first increasing, then
decreasing, etc, etc.
Part 3) Suppose that T = 3 and Harrys utility function is

U (x1 , x2 , x3 ) = x1 + x2 + x3 .
Harry earns income W > 0 in period 1, while wt = 0 for t > 1. Suppose also
that
1
= .
1+r
If Harry can commit himself to a time path of future consumption at time 1,
solve for his choice of x1 , x2 , and x3 as a function of the parameters W and r.
Part 4) Suppose that Harry can save money in period 1 but he must leave the
choice of allocation between periods 2 and 3 to his future self. Harry is aware
of this and knows that in Period 2 his utility function for consumptions periods
2 and 3 will be

U (x2 , x3 ) = x2 + x3 .
He also knows that the interest rate will continue to satisfy the equation
1
= .
1+r
3

If Harry consumes x1 in period 1, what consumptions will his period 2 self


choose for periods 2 and 3? Write down an expression for Harrys utility as a
function of x1 , taking into account the fact that he knows that his period 2 self
will determine the division of income between his period 2 self and his period 3
self. Find the optimal choice of x1 for Harry. Is this the same as the amount of
x1 that he would choose in Part 3 above?

4. Oskar consumes two goods X and Y . He is an expected utility maximizer


with von Neumann-Morgenstern utility function is
r
1
u(x, y) = x
y
where x is his consumption of X and y is his consumption of Y .
A Suppose that Oskar can only buy sure thing consumptions, that is, the
amounts he consumes are determined with certainty. Suppose that the
price of a unit of X is 1 and the price of a unit of Y is p. If Oskars income
is M , write expressions for Oskars demands for X and for Y as functions
of p and M . (Be sure to specify when there is a corner solution and when
there is an interior solution).
B If the only consumption bundles available are sure thing bundles, and if
the price of X is 1, the price of Y is p, and income is M , write Oskars
indirect utility function as a function of p and M .
C Suppose that the price of good X is certain to be 1 and the price of good
Y is certain to be 4, but that income is a random variable which takes
on value M1 if event 1 happens and M2 if event 2 happens. Suppose
that event 1 happens with probability and event 2 with probability
1 . Write a utility function that represents Oskars preferences among
alternative lotteries which differ in the values of M1 , M2 , and .
D As before, the price of good X is certain to be 1 and the price of good
Y is certain to be 4, but income is a random variable which takes on
value M1 if event 1 happens and M2 if event 2 happens. Event 1 happens
with probability and event 2 with probability 1 . Write a certainty
equivalent utility function for Oskar, showing the amount of money to
be had with certainty that is just indifferent to a lottery that awards M1
in event 1 and M2 in event 2.

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