Suppose there exists a consumer with a Cobb-Douglas utility function. U = x1^a x2^(1a) Recall that in this case, the demand equations are given by the following: x1 = a (m/p1) x2 = (1 a) m/p2

Suppose the value of a is a = 4/5

5 . Suppose that this consumer has an income of $1,000. Suppose that the price of good 1 is p1 = $5 and the price of good 2 is p2 = $10.

a) (3 marks) Calculate the amount demanded of good 1 at this initial equilibrium.

b) (3 marks) Suppose the price of good 1 decreased to p1 = $4. What will be the new amount demanded of good 1 at this new equilibrium?

c) (6 marks) This change in consumption of good 1 can be broken down into a substitution effect and an income effect. Calculate these two effects.

d) (3 marks) Is good 1 a normal good, inferior good, or Giffen good? How do you know?