Budget Constraints: Suppose a person consumes only 2 goods, food (F) and housing (H). The budget constraint

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Budget Constraints: Suppose a person consumes only 2 goods, food (F) and housing (H). The budget constraint facing this person is PFF + PHH = I where PF is the price of food, PH is the price of housing, F is the quantity of food purchased, H is the quantity of housing (say in square feet), and I is income.

a. Draw this budget constraint (with F on the horizontal axis and H on the vertical axis). Draw an indifference curve that identifies a utility‐maximizing choice for a consumer facing this budget constraint.

b. Suppose that the government establishes a program subsidizing food purchases by enabling people to buy food at a per‐unit price of 0.5PF. Add the new budget constraint to your graph, and describe the likely impact on this individual’s purchases of F and H. (Will they buy more or less food after the subsidy is given than before? Will they buy more or less housing? How will income and substitution effects determine the impact of this policy on purchases of food and housing?)

c. Do you think this program will raise or lower this person’s utility, or leave it unchanged? Explain. (5 points) d. Suppose the average consumer purchases 100 units of food per week after the subsidy is in place, so that the dollar value of the subsidy to them is effectively .5PF*100 = 50PF. If the government provided a lump sum transfer equal to this amount, instead of subsidizing food purchases, would this policy be more or less beneficial to the average consumer than the food subsidy policy is, according to our standard model? Explain.

d. Suppose the average consumer purchases 100 units of food per week after the subsidy is in place, so that the dollar value of the subsidy to them is effectively .5PF*100 = 50PF. If the government provided a lump sum transfer equal to this amount, instead of subsidizing food purchases, would this policy be more or less beneficial to the average consumer than the food subsidy policy is, according to our standard model? Explain.