Kristina consumes only goods X and Y.Her income is $600 and her utility function is U(x, y)= max{x, y}, where x is the number of units of X she consumes and y is the number of units of Y she consumes.The price of good Y is 1.The price of good X used to be 1/2 but is now 2.The equivalent variation of this price change for Kristina is

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Quizplus · Accepted Answer

Kristina's utility function U(x, y) = max{x, y} implies she will consume the good that gives her the maximum utility. Initially, with the price of X at 1/2, she could buy 1200 units of X or 600 units of Y. After the price change to 2, she can buy 300 units of X or 600 units of Y. The equivalent variation is the amount of money that would need to be given to her to reach her original utility level after the price change. Since she can still buy 600 units of Y, she needs $300 to buy 600 units of X at the new price of 2, hence the equivalent variation is $300.

Kristina Consumes Only Goods X and Y