Consider an Economy with Two Consumers, Consumer 1 and Consumer

question 40

Essay

Consider an economy with two consumers, consumer 1 and consumer 2 and two goods, good 1 and good 2. Suppose that consumer 1's utility function is given by U₁(x₁₁, x₂₁)= x₁₁x₂₁ and consumer 2's by U₂(x₁₂, x₂₂)= x₁₂ + x₂₂. Suppose the initial endowments are X₁₁ = 1, X₂₁ = 2, X₁₂ = 3, and X₂₂ = 2.
a)Graph carefully and accurately the Edgeworth box for this economy, showing the contract curve and the indifference curves of the two consumers through the initial endowment.
b)Find also the optimal level of x₁₂ as a function of p₁.
c)Find the equilibrium allocations when p₁=p₂=1.

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Definitions:

Opportunity Cost

The charge of rejecting the following prime opportunity in the process of decision-making.

Sunk Costs

Sunk costs are expenditures that have already been incurred and cannot be recovered, and should not affect future investment decisions or operations.

Opportunity Costs

The forfeit of discarding the next top choice during the decision-making procedure.

Scarce Resources

Resources that are limited in availability and cannot satisfy all the various uses for them, leading to competition and the need for allocation.