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Recitation 4 - Student

The document outlines recitation materials for an Econ 101 course at Bilkent University, focusing on an exchange economy with two consumers and two goods. It includes exercises on drawing an Edgeworth Box, analyzing Pareto efficiency, and determining consumption in competitive markets. Additionally, it discusses consumer behavior in response to price changes and income adjustments for two goods.

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Hatice A. Gürhanoğlu
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4 views2 pages

Recitation 4 - Student

The document outlines recitation materials for an Econ 101 course at Bilkent University, focusing on an exchange economy with two consumers and two goods. It includes exercises on drawing an Edgeworth Box, analyzing Pareto efficiency, and determining consumption in competitive markets. Additionally, it discusses consumer behavior in response to price changes and income adjustments for two goods.

Uploaded by

Hatice A. Gürhanoğlu
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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Bilkent University

Econ 101 - Fall 2024


Recitation Materials

Week of October 21, 2024

1) Consider an exchange economy with two consumers (Robinson and Friday) and two
goods (apples and bananas). Suppose Robinson initially owns 200 apples and 100
bananas. That is, Robinson’s endowment is

(𝑒 𝐴𝑅 , 𝑒 𝐵𝑅 ) = (200, 100).

On the other hand, Friday initially owns 100 Apples and 200 Bananas. That is, Friday’s
endowment is

(𝑒 𝐴𝐹 , 𝑒 𝐵𝐹 ) = (100, 200).

a. Draw the Edgeworth Box representing this economy and illustrate the point in the
Edgeworth Box corresponding to the endowment allocation.

b. Suppose Robinson has Cobb-Douglas preferences where his marginal rate of sub-
stitution of Bananas for Apples at bundle 𝑞 𝑅 = (𝑞𝐴𝑅 , 𝑞𝐵𝑅 ) is given by

𝑅
𝑞𝐵𝑅
𝑀 𝑅𝑆𝐵,𝐴 (𝑞 𝑅 ) = .
𝑞𝐴𝑅

Similarly, Friday has Cobb-Douglas preferences where his marginal rate of sub-
stitution of Bananas for Apples at bundle 𝑞 𝐹 = (𝑞𝐴𝐹 , 𝑞𝐵𝐹 ) is given by

𝐹
𝑞𝐵𝐹
𝑀 𝑅𝑆𝐵,𝐴 (𝑞 𝐹 ) = .
𝑞𝐴𝐹

Is the endowment allocation Pareto efficient?

c. Identify all Pareto efficient allocations, i.e., the Pareto set or the contract curve.

d. Suppose that there is a competitive market for apples and bananas. If the market
price for apples is 𝑝 𝐴 and the market price for bananas is 𝑝𝐵 , what is Robinson’s
consumption of apples and bananas?

1
e. Suppose that there is a competitive market for apples and bananas. If the market
price for apples is 𝑝 𝐴 and the market price for bananas is 𝑝𝐵 , what is Friday’s
consumption of apples and bananas?

f. Identify the competitive equilibrium allocation of this exchange economy.

g. Revisiting your answer in part c, verify that the competitive equilibrium allocation
is Pareto efficient.

2) Suppose that you only consume two goods, say good 1 and good 2. If the price of
good 1 increases by 10%, the price of good 2 does not change, and your income in-
creases by 10%, will you become better off, worse off or not affected (be indifferent)
as a result of the change?

3) Two indifference curves of a consumer and some possible budget lines are shown in
the picture below:
𝑞2

15
(3, 13.2)

(12, 9)
9
(5, 7.5)

(16, 5.4)

(10.5, 2.7)

𝑞1
10 15 18 25

a. Given that the income of the consumer is 75 TL, the price of good 1 is 3 TL/unit,
and the price of good 2 is 5 TL/unit, what is optimal bundle of the consumer?

b. If the price of good 1 increased to 7.50 TL/unit (income and price of good 2 does
not change), how much would the consumption of good 1 change?

c. How much of this change is due to income effect and how much of it is due to
substitution effect?

d. If we wanted to compensate the consumer for the increase in the price of good
1, how much extra income would we need to provide?

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