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    EC325 Week 2 Problem Set

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    Andy Shaw

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    EC325 Week 2 Problem Set

    Uploaded by

    Andy Shaw
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    17 views1 page

    EC325 Week 2 Problem Set

    Uploaded by

    Andy Shaw

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    © All Rights Reserved
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    EC325 Week 2 Problem Set, MT 2021

    1) Consider an economy with two goods and two consumers, Ann (A) and Bob
    (B). Denoting the two goods by x and y, the preferences of the consumers are
    expressed by 𝑢 𝐴(𝑥 𝐴 , 𝑦 𝐴 ) = 𝑥 𝐴 + 𝑦 𝐴 for Ann and 𝑢𝐵 (𝑥 𝐵 , 𝑦 𝐵 ) = 𝑥 𝐵 𝑦 𝐵 for Bob.
    The total endowment in the economy is 20 units of x and 10 units of y.
    a. Draw the Edgeworth box for this economy, with Ann in the bottom-left
    origin and Bob in the top right. Plot the point in the box where
    (𝑥 𝐴 , 𝑦 𝐴) = (18,2). Find Bob’s consumption of both goods, (𝑥 𝐵 , 𝑦 𝐵 ), at
    this same point.
    b. Using your answer for part a, find the MRS for Ann and Bob at the point
    where (𝑥 𝐴, 𝑦 𝐴) = (18,2).
    c. Draw the indifference curves of Ann and Bob that pass through the point
    where (𝑥 𝐴, 𝑦 𝐴) = (18,2). Is this allocation Pareto efficient? If not,
    suggest a Pareto improvement and show it visually on your graph.
    d. Find the contract curve – the set of all Pareto efficient allocations.
    e. Which Pareto efficient allocations are feasible from the point of view of
    the social planner with the ability to redistribute resources in a lump-
    sum fashion?

    2) Continue to assume there are two good and two consumers in an exchange
    economy, like in question 1. Suppose now that 𝑢 𝐴(𝑥 𝐴 , 𝑦 𝐴 ) = 𝑥 𝐴 𝑦 𝐴 for Ann
    and 𝑢𝐵 (𝑥 𝐵 , 𝑦 𝐵 ) = 𝑥 𝐵 𝑦 𝐵 for Bob. The total endowment in the economy is 100
    units of x and 100 units of 𝑦.
    a. Find the contract curve, expressing it only in terms of 𝑥 𝐴 and 𝑦 𝐴.
    Illustrate this using an Edgeworth Box.
    (Hint: use the MRS condition and the fact that 𝑥 𝐴 + 𝑥 𝑏 = 100, 𝑦 𝐴 +
    𝑦 𝑏 = 100.)
    b. Which point on the contract curve gives Ann the highest utility? Which
    point gives Bob the highest utility?
    c. Using your derivation of the contract curve, derive the utility possibility
    curve. Illustrate it in (𝑢 𝐴, 𝑢𝐵 ) space.
    d. Consider a government redistributing resources lump-sum, as in the
    Second Welfare Theorem. The government redistributes according to a
    utilitarian social welfare function. Which point on the contract curve
    would a utilitarian social planner select? Note: You can solve this
    problem graphically or analytically (harder).
    e. Which point on the contract curve would the government choose with a
    Rawlsian social welfare function? Again, you can provide a graphical or
    analytic solution.
    f. Compare your answers to d) and e). What have you learned about how
    the utilitarian planner and the Rawlsian planner’s preferences for
    equality?
    g. Harder, intuitive: We did not do parts d and e of this question in
    question 1 for a very good reason. What was that?

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