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Question
A consumer consumes only two goods X and Y and is in equilibrium. Show that when the price of good X falls, demand for good X rises. Use Utility Analysis.
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Solution
Utility Analysis:
The consumer reaches equilibrium only if the following condition is satisfied
`"MU_x"/P_x = "MU"_Y/P_Y`
Give that the utility received from each additional unit of the money spent on both the goods should be equal. The marginal utility of the amount spent on good A is equal to the marginal utility of the amount spent on good B and also equal to the marginal utility of money.
`"MU"_X/P_X = "MU"_Y/P_Y = "MU"_m`
if the price of good B fall in relation to good A, the consumer will buy more of good B
`"MU"_Y/P_Y > "MU"_X/P_X = "MU"`
The consumption of good B will tend to increase till the equality is established between the marginal, utilities of both the goods become equal to the marginal utility of money.
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