A household splits its $4,000 monthly income between necessity and luxury goods. The average price of necessities is $30 per unit and that of luxuries is $100 per unit.
(a) Write the household budget constraint.
(b) Determine the household equilibrium bundle if its proportion of necessity and luxury goods purchases is 10 to 1.
(c) What is the equation of the household's income-consumption path?
(d) Assume the household income declines by 10 %. What is the household's new bundle?
(e) Assume no loss of income but an inflation rate of 10 %. What is the house- hold's new bundle?
(f) Compare your answers in parts (d) and (e).
(g) Assume the original household income increases by 10 % to $4,400. What is the household's new bundle?
(h) Assume no change in income but the price level declines by 10 %. What is the household's new bundle?
(i) Compare your answers in parts (g) and (h).
(j) Compare your answers to parts (f) and (i). Are you surprised?