Microeconomics II Problem Set 1

Rules: You are strongly encouraged to work in groups of 3-4 people, but everyone has to hand in his or her own solution. Please write the names of other members of your group on your solution. Keep answers rigorous but brief and to the point. A subset of problems will be chosen randomly for grading and your score from the problem set will depend on the graded problems. Problem 1: Consider an economy with two consumers, two rms, and two commodities: time and the consumption good. Each consumer is endowed with 24 hours of time and has preferences over consumption (x1 ) and leisure (x2 ) given by the utility function 1/3 2/3 1 1 2/3 2 2 1/3 u1 (x1 (x1 for consumer 1 and u2 (x2 (x2 for consumer 2. 1 , x2 ) = (x1 ) 2) 1 , x2 ) = (x1 ) 2) Each rm produces the consumption good (y1 ) out of labor (y2 ) using the production 2 1 1 2 y2 0 for rm 1 and y1 0 for rm 2 y2 possibility set characterized by y1 2. Each consumer holds a one half share of each rm. Find the competitive equilibrium real wage rate, consumption bundles and production plans.
a Problem 2: Consider a two-consumer (a and b) and two-good economy. Let ua (xa 1 , x2 ) = 1/3 a 2/3 b b 1/3 b 2/3 (xa (x2 ) , a = (3, 1), ub (xb (x2 ) and b = (1, 1). Take good one as 1) 1 , x2 ) = (x1 ) the numeraire.

(a) Find the competitive equilibria. Graph then in the Edgeworth box. (b) Find the set of Pareto ecient allocations. Graph it in the Edgeworth box. Problem 3: Consider a 4-consumer, 2-good exchange economy. The consumers are labelled a, b, c, and d, and the goods are labelled x and y . Suppose that the utility functions and the initial endowments of consumers are as follows: ua (xa , y a ) = xa ub (xb , y b ) = y b u c ( xc , y c ) = xc y c d d ud (xd , y d ) = ex y a = (0, 1), b = (1, 0), c = (0, 1), d = (2, 0).

(a) Find the competitive equilibrium. (Assume that px = 1.) (b) Find the set of all Pareto-ecient allocations. Problem 4: Consider the following exchange economy: There are two agents a and b and two goods x and y . Agent as utility function is ua (xa , y a ) = min{xa (y a )2 , (xa )2 y a } and his initial endowment is (12, 0). Agent bs utility function is ub (xb , y b ) = xb y b , where > 0 and her initial endowment is (0, 12). (a) Suppose = 3. Find the competitive equilibria of this exchange economy. (Normalize the price of good x to 1.) (b) Suppose = 1. Find the competitive equilibria of this exchange economy. (Normalize the price of good x to 1.) (c) For a range of , the set of Pareto ecient allocations is the diagonal of the Edgeworth box. What is this range? Explain your answer. 1

Problem 5: Consider an exchange economy with I + 1 consumers and L goods. Let i i (1 , .., L ) denote consumer is initial endowment vector and ui denote his utility function. Suppose (x, p) is a competitive equilibrium of this economy, where x = (x1 , .., xI , I +1 ). That is, consumer I + 1 consumes his initial endowment I +1 at the competitive equilibrium. Now consider the situation when consumer I + 1 does not show up in the market. That is, consider the I -person exchange economy where the agents i = 1, .., I have the same initial endowment i and the utility function ui as before. Is the allocation (x1 , .., xI ) a competitive equilibrium allocation of this economy? Problem 6: Consider an economy composed of 2I + 1 consumers. Of these, I each own one right shoe and I + 1 each own a left shoe. Shoes are indivisible. Everyone has the same utility function given by min{L, R}, where L and R are the quantities of left and right shoes consumed, respectively. Free disposal is not allowed. (a) Show that any allocation of shoes that is matched (i.e., every individual consumes the same number of each kind) with the exception of one consumer who is consuming the remaining left shoe is Pareto ecient and conversely. (b) Let pL and pR be the respective prices of the two kinds of shoes. Find the competitive equilibria of this economy.