L05

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L05

• Choice

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Problem

• We know
• Preferences
• Prices and income
• We want optimal choice

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Secrets of Happiness (SOH)
x2
x1
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Abstract approach

• In the example we were given
• we found demands - two numbers
• Now we use abstract parameters
• we find demand functionsNow we
• 4 types of preferences

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Abstract Cobb Douglass Function

• Cobb Douglass utility functions
• and

are equivalent in terms of preferences
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Magic (Cobb-Douglass) formula
Parameters

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Cobb-Douglas Summary

• Utility function or
• Solution
• Shares of income

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• A) Let and
• B) Let and

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Interior and corner solution
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Interiority

• Cobb Douglass (always interior solution)

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SOH Extreme preferences

• Perfect Complements (shoes)
• Perfect substitutes (cheese)

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Perfect Complements Problem
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SOH (Perfect Complements)
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Perfect Complements (SOH)

Interior or corner solution?
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Is solution always interior?

• Not necessarily
• Perfect Substitutes
• Quasilinear

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Perfect SubstitutesProblem

x2
x1
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Magic Formula (Substitutes)