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    Marginal Rate of Substitution and Maximizing the Utility

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    An agent has a daily budget of $240 and her daily utility function is the consumption of two goods, X and Y:

    U(X, Y) = X Y

    If the price for good X (Px) is $8 and that for good Y (Py) is $10, what is the best combination of X and Y for the agent's daily consumption?

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    Solution Preview

    The agent's budget function is:
    Px * X + Py * Y = Budget
    or 8X + 10Y = 240 (1)

    The marginal utility of X and Y are
    MUx = dU/dX = Y
    MUy = ...

    Solution Summary

    The solution provides detailed explanation about the calculation of the marginal rate of substitution and the shows how to maximize the utility given the budget constraint.