Economics 401

Assignment 2
Must be handed in, in class, Thursday 22 May 2014
Answer all questions in the space provided.
Please write clearly and concisely.
Name:

Student Number:

1. Let A be an n by n matrix, possibly not symmetric. Let B A + A> . Prove B is

symmetric and that B is negative semi-definite if and only if A is negative semi-definite.
ANSWER
Write A as [aij ]. Then A> = [aji ]. Thus
B = [aij ] + [aji ] = [aij + aji ] = [aji + aij ] = [aji ] + [aij ] = B > .
B is negative semi-definite if and only if for all z <n

z>

z > Bz 0 iff


A + A> z 0 iff

z > Az + z > A> z 0 iff

>
0 iff
z > Az + z > Az
2z > Az 0 iff
z > Az 0,
which means A is negative semi-definite. Note that we can move from line 4 to line 5 in the
above series because z > Az is a scalar and for any scalar, its transpose is the same number.
2. MWG, 2.F.16
ANSWER
(a) We have
p2
p3
p1
x2 (p1 , p2 , p3 , w) =
p3
w
x3 (p1 , p2 , p3 , w) =
p3
x1 (p1 , p2 , p3 , w) =

Its clear that for all > 0 and for i = 1, 2, 3

xi (p1 , p2 , p3 , w) = xi (p1 , p2 , p3 , w) ,
so the demand system is homogeneous of degree zero in prices and wealth. It is also true
that


p1
p2
w
p1 x1 (p1 , p2 , p3 , w) + p2 x2 (p1 , p2 , p3 , w) + p3 x3 (p1 , p2 , p3 , w) = p1 + p2
+ p3 = w,
p3
p3
p3
so Walrass Law is satisfied.
2

(b) Suppose wealth and prices at time 1 are (p1 , p2 , p3 , w) = (1, 1, 1, 1) and wealth and
prices at time 2 are (p1 , p2 , p3 , w) = (2, 2, 1, 1). Then, according to the demand system, the
bundle of goods purchased at time 1 will be (1, 1, 1) and the bundle of goods purchased
at time 2 will be (2, 2, 1). Now observe that when the person bought bundle 1, bundle 2
was affordable this implies that bundle 1 is revealed preferred to bundle 2. Next observe
that when bundle 2 was purchased that bundle 1 was affordable. This tells us that bundle
2 is revealed preferred to bundle 1. Well bundle 1 being revealed preferred to bundle 2 and
bundle 2 being revealed preferred to bundle 1 contradicts WARP. So this demand system
violates WARP.
(c) The Slutsky matrix S is the matrix of substitution effects.


xi
xi
+ xj
S [sij ] =
pj
w
By calculation

0
1/p3 p2 /p23
0
p1 /p23
S = 1/p3
2
2
p2 /p3 p1 /p3
0


Using the logic of problem 1, for v <3 , v > S + S > v = 2v > Sv. Inspection of S shows
S + S > is a matrix of zeros. Thus v > Sv = 0.

3. Define strong monotonicity, monotonicity, and local nonsatiation. Prove strong monotonicity implies monotonicity, and monotonicity implies local nonsatiation.
ANSWER
Definitions
1/2
P
2
j=n
(a

b
)
, where we use the positive root.
Let X = <n+ , a X, b X: d (a, b)
j
j
j=1
Let a X: N (a) {x X : d (a, x) < ,  > 0}
Strong monotonicity: suppose a X and b X and b a and b 6= a; then b  a.
Monotonicity: suppose a X and b X and b >> a; then b  a.
Local non-satiation: suppose a X: then every -neighbourhood of a, N (a) contains a
b X such that b  a.
Let y (y1 , y2 , ..., yn ) X and z (z1 , z2 , ..., zn ) X. Then y z means yj zj , j =
1, ..., n and y >> z means yj > zj , j = 1, ..., n.
How to structure the proofs
Suppose we have the following statements.
Statement 1: A1 B1
and
Statement 2: A2 B2
3

and we want to prove that

Statement 1 Statement 2 .
Then you start by assuming A2 is true, and argue persuasively that A2 A1 . Since
Statement 1 is assumed to be true A1 B1 . The final step is to argue persuasively that
B1 B2 .
Proof that strong monotonicity implies monotonicity: Suppose a X and b X and b >> a,
then a X and b X and b a and b 6= a, that is, the assumptions of strong monotonicity
are met. Since we are assuming strong monotonicity is true we know its conclusion holds,
that is, b  a which is what we needed to prove.
Proof that monotonicity implies local non-satiation: Every epsilon-neighbourhood of a contains some b X such that b >> a. Since we are assuming monotonicity is true we know
its conclusion holds, that is, b  a which is what needed to prove.
4. You are given the following information about a consumers purchases. Goods 1 and
2 are the only goods consumed.
Year 1
Quantity Price
Good 1
100
100
Good 2
100
100

Year 2
Quantity Price
120
100
?
80

For what values of good 2 consumed in year 2 would you conclude:

(a) that the consumers consumption bundle in year 1 is revealed preferred to that in
year 2?
(b) that the consumers consumption bundle in year 2 is revealed preferred to that in
year 1?
(c) that her/his behaviour contradicts the weak axiom?
(d) that good 1 is an inferior good somewhere for this consumer (assume WARP holds)?
(e) that good 2 is an inferior good somewhere for this consumer (assume WARP holds)?
ANSWER
(a) Denote the consumption of good 2 in year 2 by x22 .
If the consumers consumption bundle in year 1 is revealed preferred to that in year 2
then the year 2 bundle must be affordable with year 1 prices and income. So

(100) (100) + (100) (100) (100) (120) + (100) x22 or

x22 80.

(b) If the consumers consumption bundle in year 2 is revealed preferred to that in year
1 then the year 1 bundle must be affordable with year 2 prices and income. So
(100) (120) + 80x22 (100) (100) + (80) (100) or
x22 75.
(c) This requires that the inequalities in (a) and (b) both hold, so 75 x22 80.


C
(d) Let bundle C, xC
1 , x2 , be bought with year 2 prices and just enough wealth to buy
the year 1 bundle. Since we are assuming WARP holds xC
1 < 100. Now consider year 2
bundles with x22 < 75. The cost of these bundles at year 2 prices must be less than the cost
of C, and here x21 = 120, so wealth must increase going from the year 2 bundle to the C
bundle. The effect of this increase in wealth is to decrease good 1 consumption from 120 to
something less than 100. Thus somewhere in this range good 1 must be inferior.
(e) Again, work with the C bundle but now suppose 80 < x22 100; in this range the cost
of the year 2 bundle at year 2 prices exceeds the cost of the year 1 bundle at year 2 prices.
And if WARP holds, xC
2 > 100. As we move from the C bundle to the year 2 bundle wealth
increases but the consumption of good 2 falls, so somewhere in this range good 2 must be
inferior.