The objective of this exercise is to derive a demand function from the model of the consumer;… 1 answer below »

Exercise 1 (30 points)

The objective of this exercise is to derive a demand function from the model of consumer; that is,

replicate what we did in class. Your task is to explain where the demand function comes from. You

need to start with the model of consumer (budget line, indifference map). Then, you change the price

of a good you are analyzing (good X) to determine the quantity demanded. You finish with a demand


There are two components of this exercise: graphical analysis and description. Prepare the relevant

graphical analysis and provide description (explain what is happening in the graphs, what you are


Hint: imagine that you are to teach a reader on where the demand function comes from. The reader

is not an economist and has little understanding of concepts like budget line, preferences, optimal

choice, and demand function.

Exercise 2 (30 points)

In this exercise, we study Adam who consumes only two goods, X and Y. In Figure 1, bundle A is Adam’s

optimal bundle. (In Exercise 1, you explained how to determine consumer’s optimal bundle.)

Then, something has happened, and Adam’s optimal bundle shifted to B (Figure 1). Your task is to

explain what that “something” could have been.

In economics, this kind of exercise is called “rationalization” of choice: you are looking for explanation

of Adam’s behavior based on the assumption that he is behaving in a rational way. For economists like

me, this is precisely what we do on daily basis in our research.


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