Econ 221 - Unit 5 Part 3: “Bringing it all together”
Consider Laura’s consumption of two goods: Diamond bracelets and vacations in Switzerland. Initially, the price of
bracelets is $1000.00, and the vacations cost $2000.00. Later, due to an airline price war (or an increase in the
demand for dollars – whatever) the price of Swiss vacations falls to $1000. Apply the equimarginal principle to
find the consumer equilibrium both before and after the price change assuming that Laura has $10,000 to spend on
bracelets and vacations.
Number of Bracelets MU
1
10,000
2
8,000
3
7,000
4
6,000
5
5,000
6
4,000
7
3,000
MU/$
10
8
7
6
5
4
3
Number of Vacations
1
2
3
4
5
6
7
MU
24,000
20,000
18,000
16,000
12,000
6,000
4,000
MU/$(p = $2000)
12
10
9
8
6
3
2
MU/$(p=$1000)
24
20
18
16
12
6
4
 What is the initial (before price change) consumer equilibrium?
 What is the consumer equilibrium after the price change?
 What are the 2 points that you know are on Laura’s demand curve for Swiss vacations? Is her demand curve
downward sloping?
 Why doesn’t Laura stay at the initial consumer equilibrium point when the price of vacations falls?
 Use your answer to the previous question to describe the substitution effect* that takes place from the price
change.
 Is there an income effect* from the price change? Explain.