Business Functions in Context

Introduction

In this paper I will be discussing some of the main components of the neoclassical theory of consumption with the use of different indifference curve diagrams. In the second part of the assignment I will be discussing the economic benefits of living in multiple households using different methods of models of decision-making in households.

Part A

Q1. The shaded area (in the diagram below) represents constraints of Cheryl’s spending. Without any borrowing or interest, Cheryl can spend anything within the shaded area. Point A represents a possibility that all of Cheryl’s income is spent in year one. There’s no point A on your diagram. Point B represents amount of money available in year two if Cheryl decides to save all her income in year one. Without any borrowing or interest Cheryl can spend anything within the shaded area (Point A and B). Cheryl can either spend £10 000 in year one and another £10 000 in year two. She can spend nothing in year one and £20 000 in year two or vice versa.

Your last sentence is the key to the right diagram here, Memory. Cheryl can either spend all her money (£20k) in year 1 or all of it in year 2 or a combination of year 1 and 2. So the two ends of your budget line should each be at the £20k point on the scale on each axis, as here:

Then the feasible consumption set is the whole area below the budget line. So, your analysis is slightly wrong.

Mark = 2/5..

Q2. Point A is the utility maximisation point of Cheryl where she reaches the

highest indifference curve possible given their budget constraint. At this point Cheryl is able to derive maximum utility of the £20 000 budget by spending £10 000 in year one and £10 000 in year two.