Consider a consumer who consumes only two goods: rice and beans. She has an income of k1000.00, the price of beans is k20 per kg while rice is k40 per kg.
i. Suppose that the consumer consumes 30kg beans. Assuming that she spends all her income. How many kg of rice is she going to consume?
ii. Assume that the price of the rice falls from k40 to k30. Assuming that the consumer still consumes 30kg of beans. Find the quantity of peas.
iii. Assume the income reduces to k750.00. Considering the new price of rice, she now consumes 20kg of beans. Find the quantity of rice she would have consumed in this case
iv. Find the substitution effect due to the decreases in price of rice
v. Find the income effect.
Answer all the questions accordingly
i. Given that the consumer consumes 30kg of beans at a price of k20 per kg, she spends k600 on beans (30kg * k20/kg). She has k400 left to spend on rice (k1000 - k600). At a price of k40 per kg, she can buy 10kg of rice (k400 / k40/kg).
ii. If the price of rice falls to k30 per kg, the consumer can now buy 13.33kg of rice (k400 / k30/kg).
iii. With an income of k750 and a price of k30 per kg for rice, the consumer can buy 25kg of beans (k750 / k30/kg). She would have k250 left to spend on beans, given that the price of beans is still k20 per kg. This means she can buy 12.5kg of rice (k250 / k20/kg).
iv. The substitution effect due to the decrease in price of rice can be calculated by finding the difference in quantity of rice consumed when the price decreases from k40 to k30. This is equal to 13.33kg - 10kg = 3.33kg.
v. The income effect can be calculated by finding the difference in quantity of rice consumed when the income decreases from k1000 to k750. This is equal to 12.5kg - 10kg = 2.5kg.