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# A substitution effect

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Yangjie buys smoothies and sushi, The price of a smoothie is 5\$ and the price of sushi is 1\$ a piece. Each month, Yangjie spends all of her income and buys 10 smoothies and 20 pieces of sushi. Next month the price of a smoothie will fall to 3\$ and the price of sushi will rise to 2\$ a piece. Assume that Yagjie's preference map is similar to that in Fig. 8.3 (b). Use a graph to answer the following:
1. - Will Yangjie be able to buy 10 smoothies and 20 pieces of sushi next month?
2. - will she want to buy 10 smoothies and 20 pieces of sushi, explain why
3.- which situation does she prefer: smoothies at 5\$ each and sushi at 1 \$ a piece or smoothies at 3\$ each and sushi at 2\$ a piece?
4. If she changes the quantity that she buys, which good will she buy more of and which will she buy less
5. When the prices change next month will there be an income effect and a substitution effect at work or just one of them? explain

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#### Solution Preview

a) Yangjie can still buy 10 smoothies and 20 pieces of sushi.
When Yangjie buys 10 smoothies at \$5 each and 20 pieces of sushi at \$1 each,
she spends \$70 a month. Now that the price of a smoothie is \$3 and the price of
sushi is \$2 a piece, 10 smoothies and 20 pieces of sushi will cost \$70. So Yangjie
can still buy 10 smoothies and 20 pieces of sushi.
b) Yangjie will not want to buy 10 smoothies and 20 pieces of sushi because the
marginal rate of substitution ...

#### Solution Summary

A substitution effect is demonstrated.

\$2.19

## Consumer Behavior

Income and substitution effects

1.The income effect indicates that:
A)a rise in money income will cause consumers to buy smaller quantities of normal goods.
B)when the price of a product falls, the lower price will induce the consumer to buy more of that product now that it is relatively cheaper.
C)consumers should substitute among various products until the marginal utility from the last unit of each product purchased is the same.
D)when the price of a product falls, a consumer will be able to buy more of it with a specific money income.

2.If the price of normal good X rises, the income:
A)and substitution effects will both induce the consumer to buy less of X.
B)and substitution effects will both induce the consumer to buy more of X.
C)effect will induce the consumer to buy more of X and the substitution effect will induce him to buy less.
D)effect will induce the consumer to buy less of X and the substitution will induce him to buy more.

3.If the price of a product falls, that product becomes cheaper and people will want to purchase more of it in place of other goods. This statement best describes:
A)the income effect. B) the substitution effect. C) a complementary good. D) an inferior good.

4.A fall in the price of a good increases the real income or purchasing power of consumers so that they are able to buy more of the product. This statement best describes:
A)the income effect. B) a complementary good. C) the substitution effect. D) an inferior good.

5.Which of the following is correct? When the price of normal good Z falls:
A)both income and substitution effects cause the consumer to buy more.
B)both income and substitution effects cause the consumer to buy less.
C)the income effect causes the consumer to buy less, but the substitution effect causes her to buy more.
D)the income effect causes the consumer to buy more, but the substitution effect causes her to buy less.

6.If steak is a normal good and its price rises:
A)the amount purchased may either increase or decrease depending on the relative importance of the income and substitution effects.
B)both the income and substitution effects suggest that less will be purchased.
C)the substitution effect suggests more will be purchased, but the income effect suggests less will be purchased.
D)the income effect suggests more will be purchased, but the substitution effect suggests less will be purchased.

7.The substitution effect indicates that:
A)a decline in money income will cause the consumer to buy more inferior goods and fewer superior goods.
B)consumer equilibrium can only be achieved when the consumer is buying substitute goods.
C)when the price of a product falls, the lower price will induce the consumer to buy more of that product at the expense of other products.
D)when the price of a product falls, a consumer will be able to buy more of it with a specific money income.

8.The substitution effect causes a consumer to buy less of a product when its price rises because the:
A)consumer's real income has decreased.
B)consumer's real income has increased.
C)product is now less expensive compared to other products.
D)product is now more expensive compared to other products.

9.Suppose that Jean normally orders three tacos, but on seeing that their price has gone up, decides to buy only two. Jean's decision is best explained by:
A)income and substitution effects. C)the principle of comparative advantage.
B)the law of supply. D)the law of increasing opportunity costs.

Utility; law of diminishing marginal utility

10.Utility:
A)is synonymous with usefulness. C)is easy to quantify.
B)is want-satisfying power. D)rarely varies from person to person.

11.Marginal utility can be:
A)positive, but not negative. C)positive, negative, or zero.
B)positive or negative, but not zero. D)decreasing, but not negative.

12.Brenda says, "You would have to pay me \$50 to attend that pro wrestling event." For Brenda, the marginal utility of the event is:
A)zero. B) positive, but declines rapidly. C) negative. D) positive, but less than the ticket price.

13.The ability of a good or service to satisfy wants is called:
A)utility maximization. B) opportunity cost. C) revenue potential. D) utility.

Use the following to answer questions 14-19:

14.Refer to the above data. The value for Y is:
A)25. B) 30. C) 40. D) 45.

15.Refer to the above data. The value for X is:
A)15. B) 5. C) 55. D) 10.

16.Refer to the above data. The value for W is:
A)15. B) 20. C) 25. D) 30.

17.Refer to the above data. The value for Z is:
A)-5. B) + 5. C) -10. D) zero.

18.The above data illustrate the:
A)law of comparative advantage. C)law of diminishing marginal utility.
B)utility-maximizing rule. D)law of increasing opportunity costs.

19.Refer to above data. Marginal utility becomes negative beginning with the:
A)first unit. B) second unit. C) third unit. D) fourth unit.

20.A product has utility if it:
A)takes more and more resources to produce successive units of it.
B)violates the law of demand.
C)satisfies consumer wants.
D)is useful.

21.The law of diminishing marginal utility states that:
A)total utility is maximized when consumers obtain the same amount of utility per unit of each product consumed.
B)beyond some point additional units of a product will yield less and less extra satisfaction to a consumer.
C)price must be lowered to induce firms to supply more of a product.
D)it will take larger and larger amounts of resources beyond some point to produce successive units of a product.

22.The first Pepsi yields Craig 18 units of utility and the second yields him an additional 12 units of utility. His total utility from three Pepsis is 38 units of utility. The marginal utility of the third Pepsi is:
A)26 units of utility. B) 6 units of utility. C) 8 units of utility. D) 38 units of utility.

23.If the price of product X rises, then the resulting decline in the amount purchased will:
A)necessarily increase the consumer's total utility from his total purchases.
B)increase the marginal utility of this good.
C)increase the total utility from purchases of this good.
D)reduce the marginal utility of this good.

24.Marginal utility is the:
A)sensitivity of consumer purchases of a good to changes in the price of that good.
B)change in total utility obtained by consuming one more unit of a good.
C)change in total utility obtained by consuming another unit of a good divided by the change in the price of that good.
D)total utility associated with the consumption of a certain number of units of a good divided by the number of units consumed.

25.Utility refers to the:
A)satisfaction that a consumer derives from a good or service.
B)rate of decline in a product demand curve.
C)relative scarcity of a product.
D)usefulness of a product.

Answer the next question(s) on the basis of the following two schedules which show the amounts of additional satisfaction (marginal utility) which a consumer would get from successive quantities of products J and K.

26.Refer to the above data. If the consumer has a money income of \$52 and the prices of J and K are \$8 and \$4 respectively, the consumer will maximize her utility by purchasing:
A)2 units of J and 7 units of K. C)4 units of J and 5 units of K.
B)5 units of J and 5 units of K. D)6 units of J and 3 units of K.

27.Refer to the above data. What level of total utility is realized from the equilibrium combination of J and K determined in the previous question?
A)156 utils B) 124 utils C) 276 utils D) 36 utils