3. Imagine that you consume only two goods: bagels and coffee. Your utility func

Question

3. Imagine that you consume only two goods: bagels and coffee. Your utility function is characterized by U(Qc,Q)Q25 Qg75 The price of bagels is $5 and the price of coffee is $2 and your income is $1,000 a. Find out your initial consumption bundle and the utility it provides. b. What share of your income do you spend on each good? c. One day you wake up to the horrible news that the price of coffee increased to $3. What is your new optimal consumption bundle? d. Your mom is concerned with your ability to focus and wants to give you enough money so you can afford your original level of consumption at the new prices. How much money should your mom give you? e. Your dad is upset that your mom will give you too much money and instead he wants to give you enough money to preserve your utility at the original level. Find out how much money your dad will give you f. Who do you love more? Explain! g. Graph this scenario. Make sure to include the 2 budget constraints that reflect the amounts received from each parent.

Explanation / Answer

Solving part (i) gives optimal consumption bundle of (100,250) units of bagels and coffee respectively. It provides a utility of 125.74

Due to an increase in the price of coffee, a new consumption bundle is (100,167) units of bagels and coffee respectively. It provides a utility of 113.678

To get back to original consumption bundle at the new price of coffee, we need extra of 250 amount of income.

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