Wendy and Bella have very different preferences and income, but they both shop at the same store where they only sell apples and oranges. While Wendy likes apples, she really loves oranges. Bella on the otherhand, likes oranges but she loves apples. Assume oranges is on the vertical axis (Y) and apples are on the horizontal axis (X). Bella bought $10 worth of apples and $5 worth of oranges. Wendy bought $5 worth of apples and $30 worth of oranges. Assuming both face the same prices and both are in equilibrium, what must be true about Wendy’s equilibrium marginal rate of substitution between apples (X) and oranges (Y) (MRS- how willing to give up y for an extra unit of X) compared to Bella’s equilibrium MRS? Explain.

Wendy and Bella have very different preferences and income, but they both shop at the same store where they only sell apples and oranges. While Wendy likes apples, she really loves oranges. Bella on the otherhand, likes oranges but she loves apples. Assume oranges is on the vertical axis (Y) and apples are on the horizontal axis (X). Bella bought $10 worth of apples and $5 worth of oranges. Wendy bought $5 worth of apples and $30 worth of oranges. Assuming both face the same prices and both are in equilibrium, what must be true about Wendy’s equilibrium marginal rate of substitution between apples (X) and oranges (Y) (MRS- how willing to give up y for an extra unit of X) compared to Bella’s equilibrium MRS? Explain.

 

 

Answer:

For Wendy,

MRSX,Y = Value of Oranges given up to get $1 more of apples = $5 / $10 = 0.5

For Bella,

MRSX,Y = Value of Oranges given up to get $1 more of apples = $30 / $5 = 6

So, Wendy’s MRS is lower than Bella’s MRS.

Asked on February 15, 2018 in economics.
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