Chapter 21

Chapter 21
The Theory of Consumer Choice

MULTIPLE CHOICE
1. Consider two goods, pizza and Pepsi. The slope of the consumer’s budget constraint is measured by the
a. consumer’s income divided by the price of Pepsi.
b. relative price of pizza and Pepsi.
c. consumer’s income divided by the price of pizza.
d. spending on pizza divided by the consumer’s income.
ANSWER: b. relative price of pizza and Pepsi.
TYPE: M DIFFICULTY: 1 SECTION: 1
2. If a consumer’s income decreases, the budget constraint for Pepsi and pizza will
a. shift outward, parallel to the old budget constraint.
b. shift inward, parallel to the old budget constraint.
c. rotate outward towards pizza because we can afford more pizza.
d. rotate outward towards Pepsi because we can afford more Pepsi.
ANSWER: b. shift inward, parallel to the old budget constraint.
3. If the relative price of a ticket to a concert is 3 times the price of a meal at a good restaurant, the opportunity cost of a
concert ticket is the
a. slope of the budget constraint.
b. slope of the indifference curve.
c. intercept on the concert axis.
d. intercept on the restaurant axis.
ANSWER: a. slope of the budget constraint.
4. When the price of a pair of jeans rises, the

a. quantity of jeans demanded falls.
b. quantity of jeans demanded rises.
c. quantity of jeans supplied falls.
d. demand for jeans falls.
ANSWER: a. quantity of jeans demanded falls.
5. The theory of consumer choice provides the foundation for understanding

a. the structure of a firm.
b. the profitability of a firm.
c. a firm’s product demand.
d. a firm’s product supply.
ANSWER: c. a firm’s product demand.
6. The theory of consumer choice can often provide insight into the behavior of
a. individuals who make rational choices.
b. individuals who make constrained choices.
c. individuals who are unaware of how to maximize their well-being.
d. irrational consumers.
ANSWER: b. individuals who make constrained choices.
641
642  Chapter 21/The Theory of Consumer Choice
7. The theory of consumer choice examines

a. the determination of output in competitive markets.
b. the tradeoffs inherent in decisions made by consumers.
c. how consumers select inputs into manufacturing production processes.
d. the determination of prices in competitive markets.
ANSWER: b. the tradeoffs inherent in decisions made by consumers.
8. A budget constraint
a. shows the prices that a consumer chooses to pay for products he consumes.
b. shows the purchases made by consumers.
c. shows the consumption bundles that a consumer can afford.
d. represents the bundles of consumption that makes a consumer equally happy.
ANSWER: c. shows the consumption bundles that a consumer can afford.
9. Assume that a college student spends her income on Coke and Snickers. The price of a Snickers candy bar is $0.50,
and a can of Coke is $0.75. If she has $20 of income, she could choose to consume
a. 10 Snickers bars and 20 cans of Coke.
b. 15 Snickers bars and 18 cans of Coke.
c. 22 Snickers bars and 14 cans of Coke.
d. 24 Snickers bars and 12 cans of Coke.
ANSWER: a. 10 Snickers bars and 20 cans of Coke.
10. Assume that a college student spends her income on Coke and Snickers. During finals week, the price of a Snickers
candy bar is $0.75, and a can of Coke is $1.00. If she has $20 of income, she could choose to consume
ANSWER: c. 4 Snickers bars and 17 cans of Coke.
11. Assume that a college student spends her income on Coke and Snickers. During finals week, the price of a Snickers
candy bar is $0.75, and a can of Coke is $1.25. If she has $32.50 of income, she could choose to consume
ANSWER: d. 10 Snickers bars and 20 cans of Coke.
12. A consumer that doesn't spend all of her income

a. would be at a point outside of her budget constraint.
b. would be at a point inside her budget constraint.
c. would not be consuming positive quantities of all goods.
d. must be consuming at a point where her budget constraint touches one of the axes.
ANSWER: b. would be at a point inside her budget constraint.
Chapter 21/The Theory of Consumer Choice  643
13. An increase in income will cause a consumer’s budget constraint to

a. shift outward, parallel to its initial position.
b. shift inward, parallel to its initial position.
c. pivot around the "Y" axis.
d. pivot around the "X" axis.
ANSWER: a. shift outward, parallel to its initial position.
14. Which point in the figure represents the consumer’s income divided by the price of Diet Coke?
a. Point A
b. Point C
c. Point D
d. Point E
ANSWER: b. Point C
15. A consumer that chooses to spend all of her income in the figure will be at point(s)
a. B.
b. E.
c. C or E.
d. A, B, or C.
ANSWER: d. A, B, or C.
16. All of the points identified on the figure represent possible consumption options with the exception of
a. point D.
b. point E.
c. point B.
d. None, all points are possible consumption options.
ANSWER: b. point E.
17. Which of the graphs in the figure reflects a decrease in the price of good X only?
a. graph (a)
b. graph (b)
c. graph (c)
d. graph (d)
ANSWER: b. graph (b)
18. Which of the graphs in the figure reflects an increase in the price of good Y only?
a. graph (a)
b. graph (b)
c. graph (c)
d. graph (d)
ANSWER: c. graph (c)
19. Which of the graphs in the figure reflects an increase in consumer’s income?
a. graph (a)
b. graph (b)
c. graph (c)
d. graph (d)
ANSWER: d. graph (d)
20. The slope of the budget constraint is determined by the

a. relative price of commodities represented on the axes.
b. level of income of the consumer.
c. endowment of productive resources.
d. preferences of a consumer.
ANSWER: a. relative price of commodities represented on the axes.
21. The slope of the budget constraint is all of the following EXCEPT
a. the relative price of two goods.
b. the rate at which a consumer can trade one good for another.
c. equal to the slope of the highest indifference curve.
d. constant.
ANSWER: c. equal to the slope of the highest indifference curve.
22. Using the figure, in graph (a), if income is equal to $120, the price of good Y is
a. $1.
b. $2.
c. $4.
d. $6.
ANSWER: b. $2.
23. Using the figure, in graph (a), what is the price of good Y relative to good X (i.e., P Y/PX)?
a. 1/3
b. 1/4
c. 3/1
d. 3/4
ANSWER: a. 1/3
24. Using the figure, in graph (b), what is the price of good X relative to good Y (i.e., P X/PY)?
a. 1/3
b. 1/4
c. 3/1
d. 3/4
ANSWER: c. 3/1
25. Using the figure, assume that a consumer faces both budget constraints in graph (a) and graph (b) on two different
occasions. If her income has remained constant, what has happened to prices?
a. The price of X in graph (a) is higher than the price of X in graph (b).
b. The price of Y in graph (a) is higher than the price of Y in graph (b).
c. The prices of both X and Y are lower in graph (a).
d. None of the above are true.
ANSWER: c. The prices of both X and Y are lower in graph (a).
26. All of the following are properties of indifference curves EXCEPT

a. higher indifference curves are preferred to lower ones.
b. indifference curves are downward sloping.
c. indifference curves do not cross.
d. indifference curves are bowed outward.
ANSWER: d. Indifference curves are bowed outward.
27. Right shoes and left shoes can be represented by indifference curves that are
a. bowed out
b. bowed in
c. straight lines
d. right angles
ANSWER: d. right angles
28. Nickels and dimes can be represented by indifference curves that are
a. bowed out
b. bowed in
c. straight lines
d. right angles
ANSWER: c. straight lines
29. Economists represent a consumer’s preferences using

a. demand curves.
b. budget constraints.
c. indifference curves.
d. supply curves.
ANSWER: c. indifference curves.
30. If two bundles of goods satisfy a consumer equally well, the consumer is said to be
a. on her budget constraint.
b. in a position of equilibrium.
c. indifferent between the bundles.
d. optimally satisfied.
ANSWER: c. indifferent between the bundles.
31. Based on the figure, which of the following statements is correct?

a. Point A is preferred equally to point E.
b. Point A is preferred equally to point C.
c. The bundle associated with point B contains more Ho-Ho’s than that associated with point C.
d. The bundles along indifference curve I1 are preferred to those along indifference curve I2.
ANSWER: b. Point A is preferred equally to point C.
32. Using the figure, a person that chooses to consume bundle C is likely to
a. receive higher total utility than at point A.
b. gain more satisfaction from bundle C than bundle A.
c. receive higher marginal utility from Ho-Ho’s that from Twinkies.
d. receive higher marginal utility from Twinkies than from Ho-Ho’s.
ANSWER: d. receive higher marginal utility from Twinkies than from Ho-Ho’s.
33. Using the figure, which of the following statements is true?

a. If a consumer moves from point C to point A, her loss of Ho-Ho’s cannot be compensated for by an increase of
Twinkies.
b. Point E is preferred to all other points identified in the figure.
c. Since more is preferred to less, point C may be preferred to point E in some circumstances.
d. Since point E and point B have basically equal units of Twinkies and Ho-Ho’s, a consumer would be indifferent
between these two points.
ANSWER: b. Point E is preferred to all other points identified in the figure.
34. Using the figure, which of the following statements is NOT true for a consumer who moves from point B to point C?
a. The consumer is better off since point C is higher than point B.
b. The marginal rate of substitution at points C and B differ.
c. The consumer is willing to sacrifice Twinkies to obtain Ho-Ho’s.
d. The consumer is equally well off.
ANSWER: a. The consumer is better off since point C is higher than point B.
35. Using the figure, which of the following statements is true for a consumer who moves from point A to point D?
a. It is difficult to compare the level of consumer satisfaction between points D and A.
b. The consumer is indifferent between point A and point D.
c. The consumer is definitely worse off.
d. The consumer is likely to place a higher relative value on Twinkies at point A than at point D.
ANSWER: c. The consumer is definitely worse off.
36. Indifference curves graphically represent

a. an income level sufficient to make an individual happy.
b. the constraints faced by individuals.
c. an individual's preferences.
d. the relative price of commodities.
ANSWER: c. an individual's preferences.
37. If the consumption of one good is reduced, how must a consumer alter his consumption of another good in order to
remain indifferent between two bundles?
a. He can reduce, increase or not change his consumption of another good.
b. He must reduce his consumption of another good.
c. He must increase his consumption of another good.
d. He must not change his consumption of another good.
ANSWER: c. He must increase his consumption of another good.
38. The slope of an indifference curve is

a. the rate of change of consumer’s preferences.
b. the marginal rate of preference.
c. the marginal rate of substitution.
d. always equal to the slope of the budget constraint.
ANSWER: c. the marginal rate of substitution.
39. The rate at which a consumer is willing to exchange one good for another, and maintain a constant level of
satisfaction, is called the
a. relative expenditure ratio.
b. value of marginal product.
c. marginal rate of substitution.
d. relative price ratio.
ANSWER: c. marginal rate of substitution.
40. If an indifference curve is bowed in toward the origin, the marginal rate of substitution is
a. not likely to reflect the relative value of goods.
b. likely to be constant for all bundles along the indifference curve.
c. likely to be identical to the price ratio for each bundle along the indifference curve.
d. different for each bundle along the indifference curve.
ANSWER: d. different for each bundle along the indifference curve.
41. The marginal rate of substitution is

a. the slope of a budget constraint.
b. always constant.
c. the slope of an indifference curve.
d. the point at which the budget constraint and the indifference curve is tangent.
ANSWER: c. the slope of an indifference curve.
42. The amount of each good the consumer is currently consuming

a. is only affected by price.
b. affects the rate at which she is willing to trade.
c. is only affected by income.
d. will not affect the marginal rate of substitution.
ANSWER: b. affects the rate at which she is willing to trade.
43. As long as a consumer is on the same indifference curve

a. she is indifferent to all points which lie on any other indifference curves.
b. her preferences will not affect the marginal rate of substitution.
c. she is unable to decide which bundle of goods to choose.
d. she is indifferent among the points on that curve.
ANSWER: d. she is indifferent among the points on that curve.
44. A consumer
a. is equally satisfied with any indifference curve.
b. prefers indifference curves with positive slopes.
c. prefers higher indifference curves to lower indifference curves.
d. is generally unable to place all consumption bundles on an indifference curve.
ANSWER: c. prefers higher indifference curves to lower indifference curves.
45. A consumer's preferences provide a

a. ranking of the set of bundles that happen to fall on indifference curves.
b. relative ranking of bundles that provide more of all goods.
c. framework for evaluating market equilibriums.
d. complete ranking of all possible consumption bundles.
ANSWER: d. complete ranking of all possible consumption bundles.
46. Which of the following is a property of indifference curves?

a. Indifference curves cross to explain higher preferences.
b. Indifference curves have positive slopes.
c. Indifference curves are downward sloping and always linear.
d. Indifference curves are bowed in toward the origin.
ANSWER: d. Indifference curves are bowed in toward the origin.
47. Higher indifference curves are preferred to lower ones as long as the
a. marginal rate of substitution is diminishing.
b. commodities in the bundle are “bads.”
c. commodities in the bundle are “goods.”
d. budget constraint does not shift.
ANSWER: c. commodities in the bundle are “goods.”
48. Crossing indifference curves would suggest that

a. it is possible to demonstrate that a consumer does not prefer more to less.
b. consumers are likely to prefer a redistribution of income from rich to poor.
c. it facilitates the explanation of differences in consumption choices across individuals.
d. it is possible to demonstrate that all standard properties of indifference curves are typically satisfied.
ANSWER: a. it is possible to demonstrate that a consumer does not prefer more to less.
49. When indifference curves are bowed in toward the origin, a

a. consumer is less inclined to trade away goods they are lacking.
b. consumer’s willingness to trade away goods they have in abundance diminishes.
c. consumer is less inclined to trade away goods they have in abundance.
d. consumer’s willingness to trade away goods they are lacking diminishes.
ANSWER: a. consumer is less inclined to trade away goods they are lacking.
50. A bowed in indifference curve reflects a consumer's

a. unwillingness to substitute one good for another.
b. desire to specialize in the consumption of one good over another.
c. decreasing willingness to give up a good that she has in abundance.
d. increasing willingness to give up a good that she has in abundance.
ANSWER: d. increasing willingness to give up a good that she has in abundance.
51. When considering her budget, the highest indifference curve that a consumer can reach is the
a. one that is tangent to the budget constraint.
b. indifference curve farthest from the origin
c. indifference curve that intersects the budget constraint in at least two places.
d. None of the above are correct; consumer preferences are bounded.
ANSWER: a. one that is tangent to the budget constraint.
52. All of the following are properties of indifference curves, EXCEPT indifference curves
a. are downward sloping.
b. that are closer to the origin are preferable to higher indifference curves.
c. are bowed in toward the origin.
d. do not cross.
ANSWER: b. that are closer to the origin are preferable to higher indifference curves.
53. As one moves down a typical indifference curve, the marginal rate of substitution
a. increases.
b. decreases.
c. is constant.
d. will switch from positive to negative.
ANSWER: b. decreases.
TYPE: M SECTION: 2 DIFFICULTY: 2
54. Olga consumes two normal goods, X and Y, and is currently at an optimum. If the price of good X falls, we can
predict with certainty that Olga’s real income will rise
a. and she will therefore consume more of both goods.
b. but the substitution effect will insure that she consumes more X and less Y.
c. so she will consume more of good X, but she might consume more, less, or the same of good Y.
d. but the substitution effect will negate the positive effect of the rise.
ANSWER: c. so she will consume more of good X, but she might consume more, less, or the same of good Y.
55. The relationship between the marginal utility that George gets from eating a bag of cookies and the number of bags
he eats per month is as follows:
Bags of Cookies 1 2 3 4 5 6
Marginal Utility 20 16 12 8 4 0
George receives 2 units of utility from the last dollar spent on each of the other goods he consumes. If cookies cost
$4 per bag, how many bags of cookies will he consume per month if he maximizes utility?
a. 2
b. 3
c. 4
d. 5
ANSWER: c. 4
56. George consumes two goods, milk and cookies. He has maximized his utility given his income. Milk costs $2 per
gallon and he consumes it to the point where the marginal utility he receives from milk is 4. Cookies cost $8 per bag
and the relationship between the marginal utility that George gets from eating a bag of cookies and the number of
bags he eats per month is as follows:
Bags of Cookies 1 2 3 4 5 6
Marginal Utility 20 16 12 8 4 0
How many bags of cookies does George buy each month?

a. 1
b. 2
c. 3
d. 4
ANSWER: b. 2
57. A fall in the price of widgets leads consumers to buy more widgets. From this information we can conclude that
widgets
a. are normal goods.
b. are inferior goods.
c. are Giffen goods.
d. None of the above are correct.
ANSWER: d. None of the above are correct.
58. Goods X and Y are perfect complements. If the price of good Y falls, then the substitution effect by itself will
a. cause consumers to buy more of good Y and less of good X.
b. cause consumers to buy more of good X and less of good Y.
c. not affect the amount of goods X and Y that consumers buy.
d. All of the above are correct.
ANSWER: c. not affect the amount of goods X and Y that consumers buy.
59. If goods X and Y are perfect complements, then if the price of good Y falls, changes in the amount of goods X and Y
purchased are due
a. strictly to the substitution effect.
b. strictly to the income effect.
c. to both the income and substitution effects
d. strictly to the complement effect.
ANSWER: b. strictly to the income effect.
60. The consumer’s optimal choice is the one in which the marginal utility per dollar spent
a. is equal to the marginal utility per dollar saved.
b. on good X is greater than the marginal utility spent on good Y.
c. on good X is equal to the marginal utility spent on good Y.
d. on good X is less than the marginal utility spent on good Y.
ANSWER: c. on good x is equal to the marginal utility spent on good y.
61. When two goods are perfect substitutes, the marginal rate of substitution
a. is constant.
b. decreases as the scarcity of one good increases.
c. increases as the scarcity of one good increases.
d. increases as the abundance of one good increases.
ANSWER: a. is constant.
62. In the figure, which of the graphs shown may represent indifference curves?
a. graph (a)
b. graph (b)
c. graph (c)
ANSWER: d. All of the above are correct.
63. In the figure, which of the graphs shown represent indifference curves for perfect substitutes?
a. graph (a)
b. graph (b)
c. graph (c)
ANSWER: a. graph (a)
64. When two goods are perfect complements they will have
a. indifference curves with a positive slope.
b. indifference curves that are at right angles.
c. straight line indifference curves.
d. indifference curves that are right angles.
ANSWER: d. indifference curves that are right angles.
65. Assume that your mother purchased 2 pairs of identical gloves for your birthday. "Left" gloves and "right" gloves in
this case would provide a good example of
a. perfect substitutes.
b. perfect complements.
c. negatively sloped indifference curves.
d. positively sloped indifference curves.
ANSWER: b. perfect complements.
66. When two goods are perfect complements, the indifference curves are
a. positively sloped.
b. negatively sloped.
c. straight lines.
d. right angles.
ANSWER: d. right angles.
67. When economists describe preferences, they often use the concept of
a. markets.
b. income.
c. utility.
d. prices.
ANSWER: c. utility.
68. Utility measures

a. the income a consumer receives from consuming a bundle of goods.
b. the satisfaction a consumer receives from consuming a bundle of goods.
c. the satisfaction a consumer places on their budget constraint.
ANSWER: b. the satisfaction a consumer receives from consuming a bundle of goods.
69. A “slightly bowed inward” set of indifference curves represents the two goods as
c. very close substitutes.
d. very close complements.
ANSWER: c. very close substitutes.
70. A “highly bowed inward” set indifference curves represents the two goods as
c. very poor substitutes.
d. very poor complements.
ANSWER: c. very poor substitutes.
71. A rational consumer is likely to have maximized her

a. preferences.
b. marginal rate of substitution.
c. utility.
d. budget constraint.
ANSWER: c. utility.
72. The goal of the consumer is to

a. maximize utility.
b. be on the highest indifference curve.
c. maximize satisfaction.
d. All of the above are the goals of the consumer.
ANSWER: d. All of the above are the goals of the consumer.
73. The bowed shape of the indifference curve reflects the consumer’s
a. unwillingness to give up a good that he already has in large quantity.
b. unwillingness to purchase a good that he already has in large quantity.
c. greater willingness to give up a good that he already has in large quantity.
d. greater willingness to purchase a good that he already has in large quantity.
ANSWER: c. greater willingness to give up a good that he already has in large quantity.
74. When the price of pizza falls, the income effect, for normal goods Pepsi and pizza, causes a
a. shift to a lower indifference curve so the consumer buys more Pepsi.
b. shift to a higher indifference curve so the consumer buys more Pepsi.
c. movement along the indifference curve so the consumer buys more Pepsi.
d. movement along the indifference curve so the consumer buys less Pepsi.
ANSWER: b. shift to a higher indifference curve so the consumer buys more Pepsi.
75. When the price of pizza falls, the substitution effect, for normal goods Pepsi and pizza, causes a
a. shift to a lower indifference curve so the consumer buys more Pepsi.
b. shift to a higher indifference curve so the consumer buys more Pepsi.
c. movement along the indifference curve so the consumer buys more Pepsi.
d. movement along the indifference curve so the consumer buys less Pepsi.
ANSWER: d. movement along the indifference curve so the consumer buys less Pepsi.
76. When the price of pizza falls, the income effect, for normal goods Pepsi and pizza, causes
a. the consumer to feel richer, so the consumer buys more Pepsi.
b. the consumer to feel richer, so the consumer buys less Pepsi.
c. Pepsi to be relatively more expensive, so the consumer buys more Pepsi.
d. Pepsi to be relatively less expensive, so the consumer buys less Pepsi.
ANSWER: a. the consumer to feel richer, so the consumer buys more Pepsi.
77. When the price of pizza falls, the substitution effect, for normal goods Pepsi and pizza, causes
a. the consumer to feel richer, so the consumer buys more Pepsi.
b. the consumer to feel richer, so the consumer buys less Pepsi.
c. Pepsi to be relatively more expensive, so the consumer buys less Pepsi.
d. Pepsi to be relatively less expensive, so the consumer buys less Pepsi.
ANSWER: c. Pepsi to be relatively more expensive, so the consumer buys less Pepsi.
78. When the price of pizza rises, the substitution effect, for normal goods Pepsi and pizza, causes Pepsi to be relatively
a. more expensive, so the consumer buys more Pepsi.
b. more expensive, so the consumer buys less Pepsi.
c. less expensive, so the consumer buys more Pepsi.
d. less expensive, so the consumer buys less Pepsi.
ANSWER: c. less expensive, so the consumer buys more Pepsi.
79. An increase in income will cause a shift in the budget constraint

a. outward.
b. towards the good most consumed.
c. towards the good least consumed.
d. inward.
ANSWER: a. outward.
80. A decrease in income will cause a shift in the budget constraint

a. outward.
b. towards the good most consumed.
c. towards the good least consumed.
d. inward.
ANSWER: d. inward.
81. A shift outward in the budget constraint will cause a consumer to buy
a. less normal goods and more inferior goods.
b. more normal goods and less inferior goods.
c. more normal goods and more inferior goods.
d. less normal goods and less inferior goods.
ANSWER: b. more normal goods and less inferior goods.
82. To derive the demand curve for a good the

a. income effect must be greater than the substitution effect.
b. substitution effect must be greater than the income effect.
c. substitution effect must be in the same direction as the income effect.
d. income effect and the substitution effect may be in the same or in opposite directions.
ANSWER: d. income effect and the substitution effect may be in the same or in opposite directions.
83. The combination of two goods a consumer chooses depends on the consumer’s
a. budget constraint and the consumer’s income.
b. budget constraint and the consumer’s preferences.
c. demand and the consumer’s supply.
d. preferences and the consumer’s income.
ANSWER: b. budget constraint and the consumer’s preferences.
84. An optimizing consumer will select a consumption bundle in which

a. income is maximized and prices are minimized.
b. utility is maximized and prices are minimized.
c. utility is maximized subject to budget constraints.
d. utility is maximized and indifference curves are linear.
ANSWER: c. utility is maximized subject to budget constraints.
85. The consumer’s optimum choice is represented by

a. MUx/MUy = Py/Px
b. MUx/Py = MUy/Px
c. MRSxy = Py/Px
ANSWER: d. None of the above are correct.
86. An optimizing consumer will select the consumption bundle in which the
a. ratio of total utilities is equal to the relative price.
b. ratio of income to price equals the marginal rate of substitution.
c. marginal rate of substitution is equal to the relative price.
d. marginal rate of substitution is equal to income.
ANSWER: c. marginal rate of substitution is equal to the relative price.
87. When the indifference curve is tangent to the budget constraint,

a. a consumer cannot be made better off without increasing her income.
b. the consumer is likely to be at a sub-optimal level of consumption.
c. income is at its optimum for a consumer.
d. indifference curves are likely to intersect.
ANSWER: a. a consumer cannot be made better off without increasing her income.
88. The point where the highest attainable indifference curve and the budget constraint are tangent is called
a. the consumer’s equilibrium.
b. a utility maximum.
c. the consumer’s efficient allocation of resources.
d. the consumer’s optimum.
ANSWER: d. the consumer’s optimum.
89. At the consumer’s optimum

a. the budget constraint would have a slope of MUx/Px.
b. it is still possible for the consumer to increase his consumption of both goods.
c. the indifference curve would intersect the budget constraint at its center point.
d. the slope of the indifference curve is equal to the slope of the budget constraint.
ANSWER: d. the slope of the indifference curve is equal to the slope of the budget constraint.
90. When a budget constraint shifts outward

a. it could only have been caused by in increase in income.
b. the consumer is indifferent to goods X and Y.
c. it could only have been caused by an increase in the price of one of the goods.
d. the consumer can reach a higher indifference curve.
ANSWER: d. the consumer can reach a higher indifference curve.
91. In the figure, the consumer is likely to select the consumption bundle associated with
a. point B
b. point C
c. point D
d. point E
ANSWER: b. point C
92. In the figure, it would be possible for the consumer to reach I2 if

a. the price of Y increases.
b. the price of X increases.
c. income increases.
d. All of the above would be correct.
ANSWER: c. income increases.
93. In the figure, point B represents a point where the

a. MRSxy > Py/Px
b. MRSxy = Px/Py
c. MRSxy < Px/Py
d. MRSxy > Px/Py
ANSWER: d. MRSxy > Px/Py
94. In the figure, point D represents a point where the

a. MRSxy > Py/Px
b. MRSxy = Px/Py
c. MRSxy < Px/Py
d. MRSxy < Py/Px
ANSWER: c. MRSxy < Px/Py
95. A consumer is currently consuming some of good X and some of good Y. If good Y is a normal good for this
consumer, a rise in consumer income will definitely cause
a. an increase in the consumption of X.
b. an increase in the consumption of Y.
c. a decrease in the consumption of X.
d. a decrease in the consumption of Y.
ANSWER: b. an increase in the consumption of Y.
96. A normal good is one in which

a. the average consumer chooses to consume at a normal level.
b. the average consumer chooses to consume the good over other similar goods.
c. an increase in income increases consumption of the good.
d. an increase in income decreases consumption of the good.
ANSWER: c. an increase in income increases consumption of the good.
97. An inferior good is one in which

a. the average consumer chooses not to consume.
b. the good is not equally valued by all consumers.
c. an increase in income increases consumption of the good.
d. an increase in income decreases consumption of the good.
ANSWER: d. an increase in income decreases consumption of the good.
98. Which of the following is most likely an inferior good?

a. an antique car
b. gasoline
c. a bus ticket
d. an airline ticket
ANSWER: c. a bus ticket
99. If the price of a good increases, ceteris paribus, consumers perceive

a. an increase in purchasing power if the good is an inferior good.
b. an increase in income if the price increase occurs for a normal good.
c. a decrease in purchasing power.
d. a net gain in income if they increase consumption of some goods.
ANSWER: c. a decrease in purchasing power.
100. When the price of a good increases, ceteris paribus, the higher price
a. contracts the consumer's set of buying opportunities.
b. leads to a parallel shift of the linear budget constraint.
c. will necessarily lead to an increase in the consumption of goods whose price did not change.
d. generally discourages the consumption of inferior goods.
ANSWER: a. contracts the consumer's set of buying opportunities.
101. The consumer’s optimum is where

a. MUx/MUy = Py/Px
b. MUx/Py = MUy/Px
c. Px/MUx = Py/MUy
d. MUx/MUy = Px/Py
ANSWER: d. MUx/MUy = Px/Py
102. Assume that the consumer depicted in the figure has an income of $20. The price of Skittles is $2 and the price of
M&M’s is $4. This consumer will choose a consumption bundle where the marginal rate of substitution is
a. 2.
b. 2/3.
c. 1/2.
d. 1/3.
ANSWER: c. 1/2.
103. Assume that the consumer depicted in the figure has an income of $20. The price of Skittles is $2 and the price of
M&M’s is $2. This consumer will choose to optimize by consuming
a. bundle A.
b. bundle B.
c. bundle C.
d. bundle D.
ANSWER: b. bundle B.
104. Assume that the consumer depicted in the figure faces prices and income such that she optimizes at point B.
According to the graph, what change forces the consumer to move to point A?
a. a decrease in the price of Skittles
b. a decrease in the price of M&M’s
c. an increase in the price of Skittles
d. an increase in the price of M&M’s
ANSWER: d. an increase in the price of M&M’s
105. What are the two effects of a change in the price that a consumer experiences?
a. the income effect and the budget effect
b. the complement effect and the substitute effect
c. the price effect and the preference effect
d. the income effect and the substitution effect
ANSWER: d. the income effect and the substitution effect
106. When a consumer experiences a price increase for an inferior good, it is possible that the income effect is
a. greater than the substitution effect and the demand curve will be downward sloping.
b. greater than the substitution effect and the demand curve will be upward sloping.
c. less than the substitution effect and the demand curve will be upward sloping.
d. less than the substitution effect but the substitution effect is positive and the demand curve will be upward
sloping.
ANSWER: b. greater than the substitution effect and the demand curve will be upward sloping.
107. The _______________ is due to a price change, which moves the consumer along the same indifference curve to a
point with a new marginal rate of substitution.
a. budget effect.
b. preference effect.
c. substitution effect.
d. income effect.
ANSWER: c. substitution effect.
108. Assume that a college student purchases only coffee and Snickers. If coffee is an inferior good and Snickers is a
normal good, the income effect associated with an increase in the price of a Snickers will result in
a. a decrease in the consumption of Snickers and a decrease in the consumption of coffee.
b. a decrease in the consumption of Snickers and an increase in the consumption of coffee.
c. an increase in the consumption of Snickers and an increase in the consumption of coffee.
d. an increase in the consumption of Snickers and a decrease in the consumption of coffee.
ANSWER: b. a decrease in the consumption of Snickers and an increase in the consumption of coffee.
109. If goods are perfect substitutes, the income effect of a price change
a. is always positive.
b. is zero.
c. is always negative.
d. cannot be determined.
ANSWER: d. cannot be determined.
110. A Giffen good can be explained as a good for which an increase in the price
a. decreases the quantity supplied.
b. increases the quantity supplied.
c. decreases the quantity demanded.
d. increases the quantity demanded.
ANSWER: d. increases the quantity demanded.
111. If the consumer is currently at point A in the figure, a movement to point B as a result of a decrease in the price of
potato chips represents the
a. substitution effect.
b. income effect.
c. budget effect.
d. price effect.
ANSWER: a. substitution effect.
112. If the consumer is currently at point B in the figure, a movement to point C as a result of a decrease in the price of
potato chips represents the
a. substitution effect.
b. income effect.
c. budget effect.
d. price effect.
ANSWER: b. income effect.
113. The shift from point B to point C in the figure is due to the
a. substitution effect of an increase in the price of potato chips.
b. income effect of an increase in the price of potato chips.
c. substitution effect of a decrease in the price of potato chips.
d. income effect of a decrease in the price of potato chips.
ANSWER: d. income effect of a decrease in the price of potato chips.
114. The shift from point B to point A in the figure is due to the
a. substitution effect of an increase in the price of potato chips.
b. income effect of an increase in the price of potato chips.
c. substitution effect of a decrease in the price of potato chips.
d. income effect of a decrease in the price of potato chips.
ANSWER: a. substitution effect of an increase in the price of potato chips.
115. Assume that a college student purchases only coffee and Snickers. The substitution effect associated with a decrease
in the price of a Snickers bar will result in
a. an increase in the consumption of coffee only.
b. a decrease in the consumption of coffee only.
c. an increase in the consumption of Snickers and a decrease in the consumption of coffee.
d. a decrease in the consumption of Snickers and an increase in the consumption of coffee.
ANSWER: c. an increase in the consumption of Snickers and a decrease in the consumption of coffee.
116. Assume that a college student purchases only coffee and Snickers. If both coffee and Snickers are normal goods, the
income effect associated with a decrease in the price of a Snickers will result in
a. a decrease in the consumption of Snickers and an increase in the consumption of coffee.
b. a decrease in the consumption of Snickers and a decrease in the consumption of coffee.
c. an increase in the consumption of Snickers and a decrease in the consumption of coffee.
d. an increase in the consumption of Snickers and an increase in the consumption of coffee.
ANSWER: d. an increase in the consumption of Snickers and an increase in the consumption of coffee.
117. Assume that the consumer depicted in the figure has an income of $100 and the price of a bag of marshmallows is
$5. The optimizing consumer will choose to purchase which bundle of marshmallows and chocolate chips?
a. bundle A
b. bundle B
c. bundle C
d. bundle D
ANSWER: c. bundle C
118. Assume that the consumer depicted in the figure has an income of $100 and currently optimizes at point A. When
the price of marshmallows decreases to $5, the optimizing consumer will choose to purchase how many units of
marshmallows?
a. 20
b. 10
c. 9
d. 4
ANSWER: c. 9
119. Assume that the consumer depicted in the figure has an income of $100. If the price of chocolate chips is $10.00 and
the price of marshmallows is $10.00, the optimizing consumer would choose to purchase
a. 9 marshmallows and 6 chocolate chips.
b. 10 marshmallows and 10 chocolate chips.
c. 5 marshmallows and 5 chocolate chips.
d. 3 marshmallows and 9 chocolate chips.
ANSWER: c. 5 marshmallows and 5 chocolate chips.
120. Assume that the consumer depicted in the figure has an income of $200. If the price of chocolate chips is $10.00 and
the price of marshmallows is $10.00, the optimizing consumer would choose to purchase
a. 9 marshmallows and 6 chocolate chips.
b. 10 marshmallows and 10 chocolate chips.
c. 5 marshmallows and 5 chocolate chips.
d. 3 marshmallows and 9 chocolate chips.
ANSWER: b. 10 marshmallows and 10 chocolate chips.
121. Assume that the consumer depicted in the figure has an income of $100. Which of the following price-quantity
combinations would be on her demand curve for marshmallows if the price of chocolate chips is $10?
a. $2.50, 4
b. $2.50, 9
c. $5, 4
d. $5, 9
ANSWER: d. $5, 9
122. Assume that the consumer depicted the figure has an income of $50. Which of the following price-quantity
combinations would be on her demand curve for marshmallows if the price of chocolate chips is $5?
a. $2.50, 4
b. $2.50, 10
c. $5, 4
d. $5, 10
ANSWER: c. $5, 4
123. A way to describe the consumer’s optimum other than “the marginal rate of substitution for two goods is equal to
their relative price ratio”, is
a. MUx/MUy = Py/Px.
b. MUx/Py = MUy/Px.
c. MUx/Px = MUy/Py.
d. MUy/MUx = Px/Py.
ANSWER: c. MUx/Px = MUy/Py.
124. A good is an inferior good if the consumer buys less of it when

a. his income rises.
b. the price of the good rises.
c. he feels less well off.
d. his income falls.
ANSWER: a. his income rises.
125. Given a consumer’s indifference map, the demand curve for a good can
a. be derived by moving a consumer’s budget constraint as her income rises.
b. be derived by moving a consumer’s budget constraint as her income rises and she makes choices.
c. be derived by moving a consumer’s budget constraint as the market price changes.
d. not be derived from consumer theory.
ANSWER: c. be derived by moving a consumer’s budget constraint as the market price changes.
126. The income effect of a price change is

a. a change in the slope of the budget constraint.
b. a parallel shift of the budget constraint.
c. a parallel shift and a change in the slope of the budget constraint.
d. not observable and so is neither a shift nor a change in the slope of the budget constraint.
ANSWER: b. a parallel shift of the budget constraint.
127. The substitution effect is

a. a pure change in the marginal rate of substitution.
b. a pure change in consumer welfare.
c. a change in consumer welfare and a change in the marginal rate of substitution.
ANSWER: a. a pure change in the marginal rate of substitution.
128. A Giffen good is one in which the quantity demanded rises as the price rises because the income effect
a. reinforces the substitution effect.
b. reinforces and is greater than the substitution effect.
c. counteracts but is smaller than the substitution effect.
d. counteracts and is greater than the substitution effect.
ANSWER: d. counteracts and is greater than the substitution effect.
129. Economic theory predicts that an increase in wages

a. will cause a wage earner to work more.
b. will cause a wage earner to work less.
c. will cause a wage earner to be more productive.
d. has no clear prediction.
ANSWER: d. has no clear prediction.
130. Winners of lotteries are a good example to study

a. the substitution effect.
b. the income effect.
c. how the income effect dominates the substitution effect.
d. how the substitution effect dominates the income effect.
ANSWER: b. the income effect.
131. In the figure, if point B is the consumer’s optimum and the price of Chocolate Chips is $3 per bag, what is the price
of a bag of Marshmallows?
a. $3
b. $6
c. $1.50
ANSWER: c. $1.50
132. In the figure, if point B is the consumer’s optimum and the price of Marshmallows is $3 per bag, what is the price of
a bag of Chocolate Chips?
a. $3
b. $6
c. $1.50
ANSWER: b. $6
133. In the figure, if point B is the consumer’s optimum and her income is $80, what is the price of Chocolate Chips?
a. $4
b. $5
c. $8
ANSWER: c. $8
134. In the figure, if point B is the consumer’s optimum and her income is $80, what is the price of Marshmallows?
a. $4
b. $5
c. $8
ANSWER: a. $4
135. The two “goods” used when economists analyze labor supply are
a. work and leisure.
b. work and consumption.
c. saving and consumption.
d. leisure and consumption.
ANSWER: d. leisure and consumption.
136. When considering household saving, the relative price between “consuming when young” and “consuming when
old” is the
a. consumption rate.
b. interest rate.
c. prime rate.
d. federal funds rate.
ANSWER: b. interest rate.
137. The substitution effect of a wage decrease, in the work-leisure model, is when the worker
a. wishes to work less.
b. wishes to work more.
c. is indifferent between working more or less.
d. wishes to work more but be less productive.
ANSWER: a. wishes to work less.
138. In the work-leisure model, the income effect of a wage increase is when the worker
ANSWER: a. wishes to work less.
139. If the interest rate rises, the household could

a. increase consumption when young but decrease consumption when old.
b. increase consumption when young and increase consumption when old.
c. decrease consumption when young but increase consumption when old.
d Either a or c is correct.
ANSWER: d Either a or c is correct.
140. The substitution effect of an increase in the interest rate could cause an increase in
a. consumption when young and increase in savings when young.
b. consumption when old and an increase in savings when young.
c. consumption when young and an increase in savings when old.
d. savings when old and an increase in consumption when old.
ANSWER: b. consumption when old and an increase in savings when young.
141. The income effect of an increase in the interest rate (when both consumptions are considered “normal goods”) could
cause
a. an increase in saving when young.
b. an increase in saving when old.
c. a decrease in saving when young and a decrease in saving when old.
ANSWER: c. a decrease in saving when young and a decrease in saving when old.
142. Economists studying the policy of taxation of interest and other capital income find
a. that theory and evidence support the reduction of taxation.
b. that theory and evidence refute the reduction of taxation.
c. no consensus in theory or research.
d. that the income and substitution effects dominate.
ANSWER: c. no consensus in theory or research.
143. Violations of the law of demand are assumed to occur

a. commonly.
b. only when goods are Giffen goods.
c. only when the substitution effect dominates the income effect.
ANSWER: b. only when goods are Giffen goods.
Fred has recently graduated from college with a degree in journalism and economics. He has decided to pursue a career as
a freelance journalist writing for business newspapers and magazines. Fred is typically awake for 112 hours each week (he
sleeps an average of 8 hours each day). For each hour Fred spends writing, he can earn $75.
144. If Fred decides to spend 80 hours a week playing volleyball on the beach, and the rest of his time writing, how much
income will he have available to spend on consumption goods?
a. $3,000
b. $2,400
c. $1,500
d. $900
ANSWER: b. $2,400
145. What is the implicit price that Fred pays for the satisfaction derived from playing an hour of volleyball?
a. $75
b. $37.50
c. 0
d. There is not sufficient information to answer this question.
ANSWER: a. $75
146. The labor supply curve may have a “backward bending” portion because at higher wages the
a. income effect is greater because the individual’s income is higher.
b. income effect is greater than the substitution effect.
c. effect of greater income overcomes the desire for more income.
ANSWER: b. income effect is greater than the substitution effect.
147. The backward bending portion of an individual labor supply curve is indicative of
a. dominant income effects at higher levels of income.
b. dominant income effects at lower levels of income.
c. a desire to reduce work effort (hours) as wage rate falls.
d. a desire to increase work effort (hours) as wage rate rises.
ANSWER: a. dominant income effects at higher levels of income.
148. An upward-sloping individual labor supply curve is indicative of

a. dominant income effects.
b. dominant substitution effects.
c. individuals that reduce work effort (hours) as income rises.
d. an upward-sloping demand for leisure.
ANSWER: b. dominant substitution effects.
149. When leisure is a normal good, the income effect from an increase in wages is evident in
a. a desire to consume more leisure.
b. a desire to consume less leisure.
c. an upward-sloping labor supply curve.
d. a shift in labor demand.
ANSWER: a. a desire to consume more leisure.
150. The substitution effect from an increase in wages is evident in

a. a decrease in labor demand.
b. a desire to consume less leisure.
c. a desire to consume more leisure.
d. a backward-bending labor supply curve.
ANSWER: b. a desire to consume less leisure.
151. One reason an individual labor supply curve may be backward sloping is
a. a person may devote more time to her golf game after she is promoted and receives a raise.
b. a person who wins the lottery may then quit work.
c. that work hours decline as technology raises worker productivity.
d. All of the above can be reasons.
ANSWER: d. All of the above can be reasons.
Diane knows that she will ultimately face retirement. Assume that Diane will experience two periods in her life, one in
which she works and earns income, and one in which she is retired and earns no income. Diane can earn $250,000 during
her working period and nothing in her retirement period. She must both save and consume in her work period with an
interest rate of 10 percent on savings.
152. Assume that Diane decides to consume $150,000 in the work period. How much will she consume in her retirement
period?
a. $100,000
b. $110,000
c. $125,000
d. We can't determine this from the information provided.
ANSWER: b. $110,000
153. If the interest rate on savings increases, it is possible that

a. Diane will decrease her savings in the work period.
b. Diane will increase her savings in the work period.
c. Diane will not change her consumption in the work period.
d. All of the above are possible.
ANSWER: d. All of the above are possible.
154. Jonathan is planning ahead for retirement and must decide how much to spend and how much to save while he’s
working in order to have money to spend when he retires. When the income effect dominates the substitution effect, an
increase in the interest rate on savings is likely to
a. decrease saving.
b. increase saving.
c. have no effect on saving.
ANSWER: a. decrease saving.
155. Jonathan is planning ahead for retirement and must decide how much to spend and how much to save while he’s
working in order to have money to spend when he retires. When the substitution effect dominates the income effect,
an increase in the interest rate on savings is likely to
a. increase saving.
b. decrease saving.
c. have no effect on saving.
d. All of the above are possible.
ANSWER: a. increase saving.
156. The substitution effect of a wage increase, in the work-leisure model, when the worker
ANSWER: b. wishes to work more.
157. Giffen goods have positively sloped demand curves because they are
a. inferior goods with no substitution effect.
b. normal goods with no substitution effect.
c. inferior goods for which the substitution effect outweighs the income effect.
d. inferior goods for which the income effect outweighs the substitution effect.
ANSWER: d. inferior goods for which the income effect outweighs the substitution effect.
158. If leisure were an inferior good, then labor supply curves

a. would all be negatively sloped.
b. would all be positively sloped.
c. would all be vertical.
d. could still be positively or negatively sloped.
ANSWER: b. would all be positively sloped.
159. Which of the following statements is false?

a. Reducing taxes on interest income might encourage people to save more.
b. Reducing taxes on interest income might reduce saving.
c. A price increase will create income and substitution effects that will both always work to reduce consumption of
the good.
d. Utility is maximized when the marginal rate of substitution between any two goods equals the relative prices of
the two goods.
ANSWER: c. A price increase will create income and substitution effects that will both always work to reduce
consumption of the good.
TRUE/FALSE
1. The slope at any point on an indifference curve equals the absolute price at which one consumer is willing to
substitute one good for the other.
ANSWER: F TYPE: T DIFFICULTY: 1 SECTION: 2
2. When two goods are strong complements, such as nickels and dimes, the indifference curves are straight lines.
3. When two goods are easily substitutable, such as right and left shoes, the indifference curves are right angles.
4. The properties of consumer’s preferences do not allow a consumer to be completely satisfied.

5. The marginal rate of substitution is the slope of the budget constraint.

6. The marginal rate of substitution does not change for perfect substitutes.
ANSWER: T TYPE: T DIFFICULTY: 1 SECTION: 2
7. If a consumer’s income increases the budget constraint will pivot on the X axis so that the consumer will be able to
consumer more of both goods.
8. The consumer chooses consumption of the two goods so that the marginal rate of substitution equals the relative
price ratio.
9. At the consumer’s optimum, the consumer’s valuation of the two goods equals the market valuation.
10. If a consumer wants more of a good when his income rises, economists call it an inferior good.
11. If a consumer wants less of a good when her income rises, economists call it an inferior good.
12. The income effect of a price change is the change in consumption that results from the movement to a different
indifference curve.
13. The substitution effect of a price change is the change in consumption that results from the movement to a different
indifference curve.
14. There is no need for a rigorous, analytic framework just to establish that people respond to changes in prices.
15. Economists use the term Giffen good to describe a good that violates the law of demand.
16. Giffen goods are inferior goods for which the income effect dominates the substitution effect.
17. The substitution effect (in the work-leisure model) induces a person to work less in response to higher wages, which
tends to make the labor supply curve slope upward.
18. The income effect (in the work-leisure model) induces a person to work harder in response to higher wages, which
tends to make the labor supply curve slope upward.
19. Some economists have advocated reducing the taxation of interest and other capital income, arguing that such a
policy change would raise the after-tax interest rate that savers can earn and would thereby encourage people to
save more.
20. A rise in the interest rate will cause people to consume more when they are old.
SHORT ANSWER
1. Answer the following questions based on the table. A consumer is able to consume the following bundles of rice and
beans when the price of rice is $2 and the price of beans is $3.
RICE BEANS
12 0
6 4
0 8
a.
How much is this consumer’s income?
b.
Draw a budget constraint given this information. Label it B.
c.
Construct a new budget constraint showing the change if the price of rice falls $1. Label this C.
d.
Given the original prices for rice ($2) and beans ($3), construct a new budget constraint if this consumer’s income
increased to $48. Label this D.
ANSWER: a $24;
b., c. & d.
TYPE: S SECTION: 1 DIFFICULTY: 3
2. Draw a budget constraint that is consistent with the following prices and income.
Income = 200
PY = 50
PX = 25
a. Demonstrate how your original budget constraint would change if income increases to 500.
b. Demonstrate how your original budget constraint would change if PY decreases to 20.
c. Demonstrate how your original budget constraint would change if PX increases to 40.
ANSWER:
3. Assume that a consumer faces the following budget constraints.
a. Assuming that income is the same on both occasions, describe the difference in relative prices between Panel A
and Panel B.
b. If income in Panel B is 126, what is the price of good X?
c. If income in Panel A is 84, what is the price of good Y?
d. Assuming that the price of good X is the same on both occasions, describe the difference in income and price of
good Y between Panel A and Panel B.
ANSWER: a. The price of good Y is relatively higher in Panel A than Panel B. (Or the price of X is relatively lower in
Panel A than Panel B.); b. $9; c. $12; d. Income in Panel A is twice the income in Panel B, and the price of "Y" in Panel
B is 1/18 the price of "Y" in Panel A.
4. Evaluate the following statement, "Warren Buffet is the second richest person in the world. He doesn't face any
constraint on his ability to purchase commodities he wants."
ANSWER: Everyone faces scarcity of resources, regardless of how rich they are because wants are assumed to be infinite.
5. List and briefly explain each of the four properties of indifference curves.
ANSWER: 1: Higher indifference curves are preferred to lower ones, because consumers usually prefer more of something
to less of it. 2: Indifference curves are downward sloping. The slope of an indifference curve reflects the rate at
which the consumer is willing to substitute one good for another. If the quantity of one good is reduced, the
quantity of the other good must increase in order for the consumer to be equally happy. 3: Indifference curves do
not cross. If indifference curves did cross, the same point could be on two different curves, thus contradicting the
assumption that consumers prefer more of both goods to less. 4: Indifference curves are bowed inward. This is
because people are more willing to trade away goods that they have in abundance and less willing to trade away
goods of which they have less.
6. Draw indifference curves that reflect the following preferences.

a. pencils with white erasers and pencils with pink erasers
b. left shoes and right shoes
c. potatoes and rice
d. income and polluted water
ANSWER:

7. Graphically demonstrate the conditions associated with a consumer optimum. Carefully label all curves and axes.
ANSWER:
8. Explain the relationship between the budget constraint and indifference curve at consumer optimum.
ANSWER: Since the budget constraint is tangent to the indifference curve at the consumer optimum, the slope of the
budget constraint (relative market prices) and the slope of the indifference curve (the marginal rate of substitution)
are equal.
9. Assume that a person consumes two goods, Coffee and Snickers. Use a graph to demonstrate how the consumer
adjusts his/her optimal consumption bundle when the price of Coffee decreases. Carefully label all curves and axes.
What will happen to consumption if Coffee is a normal good? What will happen to consumption if Coffee is an
inferior good? (Remember to explain the possible change when the income effect dominates and when the
substitution effect dominates.)
ANSWER:
If Coffee is a normal good, the consumption of Coffee will increase. If Coffee is an inferior good and the substitution
effect dominates, the consumption of Coffee will increase. If Coffee is an inferior good and the income effect
dominates, the consumption of Coffee will decrease.
10. Using the graph shown, construct a demand curve for M&M’s given an income of $10.
ANSWER:
11. Evaluate the following statement: "Giffen goods violate the ‘law of demand,’ therefore, the ‘law of demand’ can't
really be considered a ‘law.’"
ANSWER: Giffen goods are extremely rare, and so do not provide evidence of a general violation of the logic behind the
"law" of demand.
12. Using indifference curves and budget constraints, graphically illustrate the substitution and income effect that
would result from a change in the price of one good.
ANSWER:
13. Explain the difference between inferior and normal goods. As a developing economy experiences increases in
income (measured by GDP) what would you predict to happen to demand for inferior goods?
ANSWER: Normal goods are those in which consumption is increased as income rises. Inferior goods are those in which
consumption is decreased as income rises. We would expect demand for inferior goods to decrease as developing
countries experience increases in income.
14. Use a graph to demonstrate how an individual labor supply curve is derived.
ANSWER:

15. Janet knows that she will ultimately face retirement. Assume that Janet will experience two periods in her life, one in
which she works and earns income, and one in which she is retired and earns no income. Janet can earn $250,000
during her working period and nothing in her retirement period. She must both save and consume in her work
period and can earn 10 percent interest on her savings.
a. Use a graph to demonstrate Janet's budget constraint.
b. On your graph, show Janet at an optimal level of consumption in the work period equal to $150,000. What is the
implied optimal level of consumption in her retirement period?
c. Now, using your graph from part b above, demonstrate how Janet will be affected by an increase in the interest
rate on savings to 15 percent. Discuss the role of income and substitution effects in determining whether Janet
will increase, or decrease her savings in the work period.
ANSWER:
a. see graph below
b. see graph below
c. see graph below
Substitution effect: Retirement spending becomes less costly, so she should increase saving.
Income effect: As income increases she should increase consumption in both periods (thus reducing her saving in
the work period.)

Chapter 21

Uploaded by

Document Informationclick to expand document information

Copyright:

Available Formats

Chapter 21

Uploaded by

Document Information

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Chapter 21

Uploaded by

Copyright:

Available Formats

Chapter 21

The Theory of Consumer Choice

4. When the price of a pair of jeans rises, the

5. The theory of consumer choice provides the foundation for understanding

7. The theory of consumer choice examines

12. A consumer that doesn't spend all of her income

13. An increase in income will cause a consumer’s budget constraint to

20. The slope of the budget constraint is determined by the

26. All of the following are properties of indifference curves EXCEPT

29. Economists represent a consumer’s preferences using

31. Based on the figure, which of the following statements is correct?

33. Using the figure, which of the following statements is true?

36. Indifference curves graphically represent

38. The slope of an indifference curve is

41. The marginal rate of substitution is

42. The amount of each good the consumer is currently consuming

43. As long as a consumer is on the same indifference curve

45. A consumer's preferences provide a

46. Which of the following is a property of indifference curves?

48. Crossing indifference curves would suggest that

49. When indifference curves are bowed in toward the origin, a

50. A bowed in indifference curve reflects a consumer's

How many bags of cookies does George buy each month?

68. Utility measures

71. A rational consumer is likely to have maximized her

72. The goal of the consumer is to

79. An increase in income will cause a shift in the budget constraint

80. A decrease in income will cause a shift in the budget constraint

82. To derive the demand curve for a good the

84. An optimizing consumer will select a consumption bundle in which

85. The consumer’s optimum choice is represented by

87. When the indifference curve is tangent to the budget constraint,

89. At the consumer’s optimum

90. When a budget constraint shifts outward

92. In the figure, it would be possible for the consumer to reach I2 if

93. In the figure, point B represents a point where the

94. In the figure, point D represents a point where the

96. A normal good is one in which

97. An inferior good is one in which

98. Which of the following is most likely an inferior good?

99. If the price of a good increases, ceteris paribus, consumers perceive

101. The consumer’s optimum is where

124. A good is an inferior good if the consumer buys less of it when

126. The income effect of a price change is

127. The substitution effect is

129. Economic theory predicts that an increase in wages

130. Winners of lotteries are a good example to study

139. If the interest rate rises, the household could

143. Violations of the law of demand are assumed to occur

148. An upward-sloping individual labor supply curve is indicative of

150. The substitution effect from an increase in wages is evident in

153. If the interest rate on savings increases, it is possible that

158. If leisure were an inferior good, then labor supply curves

159. Which of the following statements is false?

4. The properties of consumer’s preferences do not allow a consumer to be completely satisfied.

5. The marginal rate of substitution is the slope of the budget constraint.

TYPE: S SECTION: 1 DIFFICULTY: 2

3. Assume that a consumer faces the following budget constraints.

6. Draw indifference curves that reflect the following preferences.