Mario has a small garden where he raises eggplant and tomatoes.

He consumes some of these vegetables, and he sells some in the market.

Eggplants and tomatoes are perfect complements for Mario, since the only recipes he

knows use them together in a 1:1 ratio.

One week his garden yielded 30 pounds of eggplant and 10 pounds of tomatoes. At that

time the price of each vegetable was $5 per pound.

v> Suppose that before Mario makes any trades, the price of tomatoes rises to $15 a

pound, while the price of eggplant stays at $5 a pound.

a) What is the value of Mario's endowment now? (1 pt)

b) Write down Mario's new budget constraint in scenario 1, and label it as BC2. (1 pt)

c) Add to the diagram you drew, the new budget line BC2, and the new optimal point

B. Indicate the coordinates of bundle B and intercepts of BC2. (4pt)

Scenario 2:

3. Suppose that Mario had sold his entire crop at the market, intending to buy back

some tomatoes and eggplant for his own consumption. Before he had a chance to

buy anything back, the price of tomatoes rose to $15, while the price of eggplant

stayed at $5.

a) Write down Mario's new budget constraint in scenario 2, and label it as BC3. (

2pt)

b) Add to the existing diagram, to show Mario's budget line BC3, his optimal bundle

(label as C), and the indifference curve going through C. Indicate the coordinates

of bundle C and intercepts of BC3. (4 pt)

4. Consider Scenario 1. That is, assume that the price of tomatoes rose to $15 from $5

before Mario made any transactions.

a) In your diagram, show the Substitution effect, ordinary income effect, and

endowment income effect on good 1. Label the hypothetical budget line you

need to draw as BL4 (you don't need to calculate its intercepts) and label the

optimal bundle on BL4 as bundle D. (10 pt)

b) What is the change in the demand for tomatoes due to the substitution effect? (2

pt)

c) What is the change in the demand for tomatoes due to the ordinary income

effect? (2 pt)

d) What is the change in the demand for tomatoes due to the endowment income

effect? (2 pt)