Author Question: If a consumer views the two goods they consume as perfect substitutes, the optimal bundle will be a ... (Read 164 times)

lidoalex · **on:** Jul 1, 2018

If a consumer views the two goods they consume as perfect substitutes, the optimal bundle will be a corner solution. Explain.

What will be an ideal response?

Question 2

Explain why checks on principals might be necessary.

What will be an ideal response?

bob · **Reply #1 on:** Jul 1, 2018

Answer to Question 1

Perfect substitutes are goods for which at any point you will trade one good in the same proportion for the other. The specific utility function is U(x,y) = ax + by, and the ICs are linear throughout.
A corner solution is when the optimal bundle is all of one good and none of the other (i.e. the solution is at the intercept of the BC and one of the axes).

True, since the MRS is constant for p.s.'s, the optimal bundle will occur at a corner

Answer to Question 2

Without checks, the employer (principal) might have the ability of exploiting an employee (agent) by claiming that he/she did not put forth the effort agreed upon, or by falsely reporting information such as profits. Since payments are made after work is completed it potentially puts the employee in a bad bargaining position. An inefficient contract might eliminate/mitigate such behavior.