Suppose that consumer has utility function U(X1, X2)=X½,X½. He originally face price (1,1) and has income 100. Then the price of good1 increase to 2.
Calculate how to get compensating and equivalent variation mathematically?
Compensating Variation (CV):
CV = (100/2)1/2 - (100/1)1/2 = 10
Equivalent Variation (EV):
EV = (100/2)1/2 - (100/1)1/2 + (2-1) = 11