Consumer Choice

Remember Alexander, the frequent traveller who likes economics textbooks? He has an income of $750 to
spend on air travel and economics textbooks. Currently, air travel costs $100 and economics textbooks $50.
Due to increased environmental regulation, the price of airfare increases to $150.
a. Assume Alexander has smooth and convex indifference curves. Depict his initial and new consumption
decisions. Put air travel on the x-axis.
b. Decompose the change in air travel consumption into a substitution and an income effect, assuming
both goods are normal goods.
c. In a new diagram, decompose the change in air travel consumption into a substitution and an income
effect, assuming that textbooks are inferior goods.
d. Redo (a) and (b), putting air travel on the y-axis.

Sample Solution

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