4= Assume Mr. Abebe spends all his daily income of birr 100 on food, and he purchases bread and coffee. The price of a loaf of bread is birr 5, and the price of a cup of coffee is birr 10. If Mr Abebe purchases 5 cups of coffee and 10 loaf of bread, and make his marginal rate of substitution between coffee and bread to be one. Is Mr Abebe at his equilibrium point? If yes, explain how? If no, explain how he can manage to reach his equilibrium point.
2 answers
Yes, Mr Abebe is at his equilibrium point. This is because he is spending all of his income on the two goods, and his marginal rate of substitution between coffee and bread is one. This means that he is willing to give up one cup of coffee for one loaf of bread, and vice versa. This is the optimal combination of goods that maximizes his utility given his budget constraint.
No, Mr. Abebe is not at his equilibrium point. In order to reach his equilibrium point, he would need to buy the same amount of coffee and bread so that the marginal rate of substitution between them is equal to one. He can do this by purchasing 5 loaves of bread and 10 cups of coffee evenly. This will give him an MRS of 1 and he will be at his equilibrium point.