chapter 5 – part a applications of rational choice and demand theories mcgraw-hill/irwin copyright...
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Chapter 5 – Part AApplications of
Rational Choice and Demand Theories
McGraw-Hill/Irwin Copyright © 2015 The McGraw-Hill Companies, Inc. All rights reserved.
5 -2
U1
Quantity of X5 6
AO
G
Su
bsid
y
4
1 2 3 4
1
2
3 Cost of the subsidy if the person consumes two units.
Flat Grants versus SubsidiesIncome = $3 and PX = $1. So this person
would be somewhere on the original budget constraint (indifference curve not shown). Suppose the government introduces a per unit subsidy program of $0.50 per unit on X -- to the consumer the price would fall from a dollar to 50 cents (and as such the person's budget constraint would rotate as shown above).
Quantity of X1 2 3 4 5 6
AO
G
3
2
4
Su
bsid
y
1
Su
bsid
y
Person consumes less X but is better off
Flat Grants versus Subsidies
5-3
How much did the government spend? At 50 cents a unit, it cost the government $1. The red line is the budget line if the government gives the consumer $1.00
If you want to make people as well off as possible, then simply transfer unrestricted cash to them. If you are more interested in them consuming good X, then do a per unit subsidy.
5-4
Food Stamp versus Cash Grantunder a Voucher System
5-5
Application: A Gasoline Tax And Rebate Policy
• Policy proposal made during the administration of President Jimmy Carter
• Goal: use gasoline taxes to help limit the quantity demanded of gasoline.– Tax revenue would then be used to reduce the
payroll tax (tax rebate).
• Would consumers buy the same amount of gasoline as before if the tax is rebated?
5-6Copyright © 2013 Pearson Education, Inc. • Microeconomics • Pindyck/Rubinfeld, 8e.
5-7
A Gasoline Tax and Rebate (text example)
5-8
The Intertemporal Choice Model
• How would rational consumers distribute their consumption over time?
• Two time periods: current and future. • Two alternatives (goods): current consumption
(C1) versus future consumption (C2).
5-9
The Intertemporal Choice Model Budget Constraint
• Present value: the present value of a payment of X dollars T years from now is X(1+ r)T, where r is the annual rate of interest.
• Present value of lifetime income: the horizontal intercept of the intertemporal budget constraint as the
5-10
Intertemporal Budget Constraint with Income in Both Periods, and Browsing or
Lending at the Rate r
Marginal rate of time preference: the number of units of consumption in the future a consumer would exchange for 1 unit of consumption in the present.
It declines as one moves downward
along an indifference curve.
5-11
The Optimal Intertemporal Allocation
5-12
Patience and Impatience
5-13
The Effect of a Rise in the Interest Rate
5-14
Slope = - Wage
U1
LeisureWork168128 HRS
Inco
me
$1,6
80
$400
Labor - Leisure
W3
W2
W1
Labour
Inco
me
0L2 L1
Labor supplied is the same at both W2 and W3
Labor - Leisure
5-15
5-16
W S
W1
Quantity of LaborL1 L2
W2
W3
Labor Supply Curve