-Record Companies, Faced with the Growing Competitions from Digital Music

Essay

-Record companies, faced with the growing competitions from digital music download services, lower the price of a music CD from $18.00 to $13.50. The price of a DVD is $18. Olivia's income is $216 a year and she spends all of it on music CDs and movies on DVDs.
a) What is Olivia's real income in terms of CDs? What is her real income in terms of DVDs?
b) What is the relative price of a CD in terms of DVDs? What is the opportunity cost of a DVD?
c) Calculate the equation for Olivia's budget line. Place the quantity of DVDs on the left side of the equation.
d) Draw a graph of Olivia's budget line (with CDs on the horizontal axis). What is the slope of Olivia's budget line? What determines its magnitude?
The figure above illustrates Olivia's preferences.
e) Given the price of a CD, the price of a DVD, and Olivia's income, what quantities of CDs and DVDs does Olivia buy? Explain your solution.
f) What is Olivia's marginal rate of substitution at the point at which she consumes? Explain.
g) Determine how many CDs Olivia buys if the price of a CD is $18 and there is no change in the price of DVD nor in Olivia's income. Derive Olivia's demand curve for CDs for the price change from $18 to $13.50 per CD.