Walt considers x and y to be perfect substitutes. They originally cost $10 and $
ID: 1190604 • Letter: W
Question
Walt considers x and y to be perfect substitutes. They originally cost $10 and $9 respectively. His income is $720. One day the price of x drops to $8.
a.
The income effect increases the quantity of y by 90.
b.
The substitution effect increases the quantity of y by 80.
c.
The substitution effect increases the quantity of x by 90.
d.
The income effect increases the quantity of x by 80.
e.
None of the above.
a.
The income effect increases the quantity of y by 90.
b.
The substitution effect increases the quantity of y by 80.
c.
The substitution effect increases the quantity of x by 90.
d.
The income effect increases the quantity of x by 80.
e.
None of the above.
Explanation / Answer
Given
Px= $10, Py= $9
Income = $720
As x and y are perfect substitutes, decrease in price of any of the goods will make walt to shift from high price to low price good
As cost of y is less, he purchases 720/9 = 80 units of good y
After the price of x drops to 8
Px= 8, Py= 9
Walt shifts to good x, as they are perfect substitutes and purchases x
units of x = 720/8
= 90
Therefore, option c is correcr, as substitution effect increases quantity of x by 90
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