Universidad Carlos III

BA in Philosophy, Politics, and Economics

Microeconomic Theory
2017-2018

Problem set 1: Efficiency and equilibrium in exchange economies

The date refers to when a question was asked in a final exam. If you need help, you can refer to the material
on the web page (old final exams with solutions).

1 January 2018
(34 points)
1. An exchange economy consists of two individuals, A and B and two goods, X and Y .
1 1
• A and B’s utility functions are UA (xA , yA ) = xA2 + yA2 , UB (xB , yB ) = xB + yB .


• Total initial endowments are X, Y = (8, 8)

(a) (4 points) Draw an Edgeworth box depicting the indifference curves passing through allocation
(xA , yA , xB , yB ) = (4, 4, 4, 4).
(b) (4 points) What is the set of efficient allocations of this economy?

2. An exchange economy consists of two individuals, A and B and two goods, X and Y .
2
• A and B’s utility functions are UA (xA , yA ) = x2A + yA , UB (xB , yB ) = xB + yB .


• Total initial endowments are X, Y = (4, 4) .

(a) (6 points) Draw an Edgeworth box depicting the indifference curves passing through allocation
(xA , yA , xB , yB ) = (2, 2, 2, 2). Is this allocation efficient? If yes, explain why. If not, provide ei-
ther a graphical argument or another feasible allocation that Pareto dominates it. [Hints: What are
the allocations that A prefers to this allocation? What are the allocations that B prefers to this
allocation?]
(b) (6 points) Draw an Edgeworth box (draw a separate Edgeworth, do not use the one you drew for
part 2a) depicting the indifference curves passing through allocation (xA , yA , xB , yB ) = (4, 0, 0, 4). Is
this allocation efficient? If yes, explain why. If not, provide either a graphical argument or another
feasible allocation that Pareto dominates it.
(c) (8 points) What is the set of efficient allocations for this economy?
(d) (6 points) Suppose that the allocation of part 2b is the initial endowment, (xA , y A , xB , y B ) =
(4, 0, 0, 4). Are (p∗X , p∗Y ) = (1, 1) Walrasian equilibrium prices? If yes, provide Walrasian equilib-
rium allocation. If not, explain why not. [Hint: Use a graphical analysis].

2 June 2014
(27 points) Consider an economy with two goods, X and Y , and two consumers, A and B.
1 1 1 1
• Consumers’ utility functions are UA (xA , yA ) = xA2 + yA2 and UB (xB , yB ) = xB2 + yB2 .
• Initial endowments are (xA , y A ) = (1, 0) and (xB , y B ) = (0, 1).

1. (5 points) Derive the set of efficient allocations and represent it in an Edgeworth box.
2. (8 points) Derive Walrasian equilibrium prices and allocation.
3. (3 points) Represent in an Edgeworth box initial endowments, the equilibrium allocation and the Walrasian
equilibrum price line.
4. (11 points) Consider now the case in which there are two consumers of type A (each has the same
preferences and the initial endowment as consumer A described above) and eight of type B (each has the
same preferences and the initial endowment as consumer B described above). Derive Walrasian equilibrium
prices and allocation.

1
3 January 2014
(26 points) Consider an economy with two goods, X and Y , and two consumers, A and B. Consumers’ utilitity
2

are UA (xA , yA ) = (xA + 1) (yA + 2) and UB (xB , yB ) = min {xB , yB }. Total initial endowments are
functions
X, Y = (11, 10).
1. (6 points) Derive the set of efficient allocations and represent it in an Edgeworth box.
2. (10 points) For each of the following two distributions of initial endowments, derive Walrasian equilibrium
price and allocation:

(a) (xA , y A , xB , y B ) = (4, 3, 7, 7)

(b) (xA , y A , xB , y B ) = (0.5, 0, 10.5, 10).

3. (4 points) Represent in two separate Edgeworth boxes the initial endowments, the Walrasian equilibrium
allocations and price lines for cases 2.(a) and 2.(b).
4. (6 points) Consider now case 2.(b) and suppose that the government intends to carry out a redistribution in
favor of consumer A. For this purpose the government can carry out a redistribution of initial endowments
and then let consumers exchange. Suppose that the government has a limited ability to redistribute initial
endowments in that it can reassign 1 unit of good X or 1 unit of good Y . If the government intends to
maximize the increase in utility that A obtains in the Walrasian equilibrium after the redistribution, what
redistribution should it carry out? Explain your answer.

4 June 2013
(25 points) Consider an economy with two goods, x and y, and two consumers, A and B. Consumers’ utility
functions are UA (xA , yA ) = (xA + 2) (yA + 2) and UB (xB , yB ) = 2xB + yB and their initial endowments are
(xA , y A ) = (1, 4) and (xB , y B ) = (2, 2).
1. (9 points) Find the set of Pareto efficient allocations and draw it in the Edgeworth box.
2. (9 points) Find the Walrasian equilibrium for this economy and draw it in the Edgeworth box.
3. (7 points) Draw in the Edgeworth box those initial endowments that lead to corner Walrasian equilibria.

5 January 2013
(25 points) Consider an economy with two consumers, A and B, and two goods, x and y. Total initial en-
dowments are (x, y) = (10, 10) and the preferences of consumer A are represented by the following utility
function
UA (xA , yA ) = min {xA , 2yA } .
1. (6 points) Suppose that the preferences of consumer B are represented by the following utility function
UB (xB , yB ) = xB .
Find efficient allocations (interior and, if there are any, corner ones) and draw them in the Edgeworth
box.
2. (6 points) Suppose that the preferences of consumer B are represented by the following utility function
UB (xB , yB ) = yB .
Find efficient allocations (interior and, if there are any, corner ones) and draw them in the Edgeworth
box.
3. Suppose that the preferences of consumer B are represented by the following utility function
UB (xB , yB ) = xB + yB .

(a) (6 points) Find efficient allocations (interior and, if there are any, corner ones) and draw them in the
Edgeworth box.
(b) (7 points) Suppose now that the initial endowments are (xA , y A ) = (5, 5) and (xB , y B ) = (5, 5). Find
the Walrasian equilibrium and draw it in the Edgeworth box.

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6 June 2012
(40 points)
1. (10 points) Consider an economy with three consumers, A, B and C, and two goods, X and Y . Pre-

{xA , yA }, UB (xB , yB ) =
ferences are represented by the following utility functions: UA (xA , yA ) = mı́n
mı́n {xB , yB } and UC (xC , yC ) = xC yC . Total initial endowments are X, Y = (6, 9). Derive efficient
allocations.
2. Consider an economy with two consumers, A and B, and two goods, X and Y . Preferences are repre-
sented by the following utility functions: UA (xA , yA ) = mı́n {xA , yA } and UB (xB , yB ) = xB + yB . Initial
endowments are (xA , y A ) = (10, 6) and (xB , y B ) = (0, 2).

(a) (5 points) Derive the set of efficient allocations and represent it in an Edgeworth box.
(b) (5 points) Is allocation (xA , yA , xB , yB ) = (9, 8, 1, 0) efficient?
(c) (10 points) Derive Walrasian equilibrium price and allocation and represent the Walrasian equilibrium
in the Edgeworth box.
(d) (10 points) Assume now that initial endowmentes are instead (xA , y A ) = (10, 6) and (xB , y B ) = (0, 1).
Derive Walrasian equilibrium price and allocation and represent the Walrasian equilibrium in the
Edgeworth box.

7 January 2011
(25 points) Consider an economy with two consumers, A and B, and two goods, X and Y . Consumers’ utility
1 2
functions are UA (x, y) = x 3 y 3 and UB (x, y) = min {2x, y} and their initial endowments are (xA , y A ) = (3, 0)
y (xB , y B ) = (1, 8).
1. (5 points) Find the set of Pareto optimal allocations and draw it in the Edgeworth box. [Hint: A careful
graphical analysis of the Edgeworth box is sufficient to answer this question.]
2. (5 points) Find the equilibrium and draw it in the Edgeworth box.
3. (5 points) Is it possible to find initial endowments such that allocation (x̃A , ỹ A , x̃B , ỹB ) = (2, 4, 2, 4)
becomes the Walrasian equilibrium and why? If it is possible, find Walrasian equilibrium prices. Which
initial endowments will result in this equilibrium? Give an example or (better!) find them all.
4. (4 points) Is it possible to find initial endowments such that allocation (x̂A , ŷ A , x̂B , ŷ B ) = (1, 5, 3, 3)
becomes the Walrasian equilibrium and why? If it is possible, do the same steps as in (3).
5. Suppose that y A = 2 while all other endowments are the same as before.

(a) (3 points) Find the set of interior Pareto optimal allocations and draw it in the new Edgeworth box.
(b) (3 points) Represent allocation (xA , y A , xB , y B ) = (0, 1, 4, 9) in the Edgeworth box. Is it Pareto
optimal?

8 June 2010
(20 points) Consider an economy with two consumers, A y B, and two goods, x and y. The preferences of the
consumers A and B are the following

UA (xA , yA ) = ln xA + 2yA
1
UB (xB , yB ) = (xB ) 2 + yB

The initial total endowments are X = 6 and Y = 8.

1. (4 points) Find the set of interior Pareto optimal allocations.
2. (2 points) Draw the set of interior Pareto optimal allocations in the Edgeworth box.
3. (3 points) Find the set of corner Pareto optimal allocations and draw it in the Edgeworth box.
4. (11 points) Suppose that the initial endowments are(xA , y A ) = (6, 4) and (xB, y B ) = (0, 4). Find the prices
and the allocation in the Walrasian equilibrium.

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9 January 2010
(25 points) Consider an economy with two goods, x and y, and two consumers, A and B. Consumers’ utility
1 2 2 1
functions are UA (xA , yA ) = xA3 yA3 and UB (xB , yB ) = xB3 yB3 and their initial endowments are (xA , y A ) = (6, 3)
and (xB , y B ) = (3, 3).
1. (9 points) Find the set of Pareto optimal allocations and draw it in the Edgeworth box.

2. (9 points) Find the equilibrium and draw it in the Edgeworth box.

3. (4 points) Is the equilibrium that you found in (2) efficient? Explain why or why not.
4. (3 points) Give an example of initial endowments that give rise to a corner equilibrium in which both
consumers have a strictly positive utility or explain why it is not possible.

10 September 2008
(25 points) Consider an economy with two consumers, A and B, and, two goods x and y. Consumers A and
B’s utility functions are

UA (xA , yA ) = (xA + 5) yA
UB (xB , yB ) = xB yB .

Consumers’ initial endowments are (xA , y A ) = (2, 0) and (xB , y B ) = (8, 5).
1. (6 points) Derive the set of interior Pareto efficient allocations.
2. (2 points) Represent the set of interior Pareto efficient allocations in an Edgeworth box.

3. (3 points) Are there any corner Pareto efficient allocations? If so, find them.
4. (11 points) Derive Walrasian equilibrium prices and allocations for this economy.
5. (3 points) Represent the Walrasian equilibrium in an Edgeworth box.

11 January 2008
(22 points) Consider an economy with two consumers, A and B, and two goods, X and Y . Consumers A and
B’s utility functions are
2
UA (xA , yA ) = (xA ) (yA )
UB (xB , yB ) = 2 ln xB + ln yB .


Total initial endowments are X, Y = (1, 1).
1. (8 points) Derive the set of Pareto efficient allocations.
2. (2 points) Represent the set of Pareto efficient allocations in an Edgeworth box.

3. (5 points) Suppose that consumers A and B’s initial endowments are, respectively (xA , y A ) = (1/2, 4/5)
and (xB , y B ) = (1/2, 1/5). Derive Walrasian equilibrium prices and allocation and represent them in the
Edgeworth box of part 2.
4. (7 points) Suppose now that you do not know the initial endowments of consumers A and B, but that you
are told that in the Walrasian equilibrium, prices of X and Y are identical. Is this piece of information
sufficient to determine the Walrasian equilibrium allocation? If so, derive it. Otherwise, explain why this
piece of information is insufficient.

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12 September 2006
(25 points) Consider an economy with two consumers, A and B, and two goods, x and y. Conumers A and B’s
preferences are represented by the following utility functions

UA (xA , yA ) = xA + 3yA
UB (xB , yB ) = 2xB + yB ,

and their initial endowments are (xA , y A ) = (2, 1) and (xB , y B ) = (2, 3).
1. (15 points) Determine the set of Pareto efficient allocations and represent it in an Edgeworth box.
2. (10 points) Find the Walrasian equilibrium and represent it in an Edgeworth box. (Hint: A graphical
analysis of an Edgeworth box is sufficient to find the Walrasian equilibrium.)

13 February 2004
(20 points) In an economy there are 10 rich and 20 poor individuals. The initial endowment of each rich
individual is (xR , y R ) = (30, 21) and the initial endowment of each poor individual is (xP , y P ) = (10, 2). The
utility functions of rich and poor individuals are

UR (xR , yR ) = min {xR , 2yR }

UP (xP , yP ) = xP yP .

1. Derive the demand functions of each rich individual, xR (pX , pY ), yR (pX , pY ).

2. Derive the demand functions of each poor individual, xP (pX , pY ), yP (pX , pY ).

3. Write down market clearing conditions. [Hint: Keep into account the number of individuals of each type.]
4. Derive Walrasian equilibrium prices, (p∗X , p∗Y ). [Hint: Normalize p∗X = 1.]

5. Derive Walrasian equilibrium quantities, (x∗R , yR

∗
, x∗P , yP∗ ).