Chapter 7

True or false: When tastes are homothetic, all goods are normal goods

True As income changes by a percentage, consumption of all goods increases by same percentage

When tastes are quasilinear one of the goods is normal

True As income changes, consumption of one of the goods does not change. Thus as income increases, the percentage of income spent on that good decreases

income effect

a change in behavior arising form ONLY a change in income

Homothetic tastes

are tastes for which the MRS depends only on the ratio of each good in the bundle. So MRS remains constant along any ray from origin The consumption of both bundles changes by the same percentage as income changes

normal good

as income decreases, consumption decreases

inferior good

as income decreases, consumption increases

Substitution effect causes

consumer to consume more of what has become less expensive and less of what has become more expensive

the income effect for normal goods is

positive

In a 2 good model, if the 2 goods are perfect complements, they must both be normal good

true consumed in pairs so consumption of both increases as income increases

Is it possible for all goods to be normal goods

yes

does there have to be one inferior and one normal or both normal

yes because the increased income has to go somewhere

True or false: when tastes are homothetic some goods could be luxuries while others could be necessities

False When tastes are homothetic they are borderline between luxuries and necessities

Is it possible for all goods to be luxury goods?

No

quasilinear good (in terms of income)

good whose consumption does NOT depend on income MRS depends only on consumption of that good

necessities

goods whose consumption increases by less than the percentage increase in income

luxuries

goods whose consumption increases by more than the percentage increase in income

A homothetic good lies at the border between

necessity and luxury

the income effect for inferior goods is

negative

Is it possible for all goods to be inferior?

no

Is it possible for all goods to be necessitates?

no if income increases by some percentage, consumption of each good would increase by lesser percent and some income remain unspent

the income effect for quasilinear goods is

non existent

A quasilinear good lies at the border between

normal and inferior

substitution effect

the change in behavior that results purely from the change in opportunity costs with no change in "real income". compensated budget so you slide along indifference curve