Income And Substitution Effect Of A Price Change

In other words the relation between price and quantity demanded being inverse the substitution effect is negative.

Income and substitution effect of a price change. The income effect expresses the impact of increased purchasing power on consumption while the substitution effect describes how consumption is impacted by changing relative income and prices. The hicksian method is theoretically the correct one as with this method the substitution effect measures the effect of movement along an indifference curve due to change in relative prices whereas the income effect measures the effect of a movement between indifference curves at unchanged relative prices. The substitution affect is always negative because when the price of a good falls or rises more or less of it would be purchased the real income of the consumer and price of the other good remaining constant. This movement is called the substitution effect.

To sum up price effect is composed of income effect and substitution effect and further that the direction in which quantity demanded will change as a result of the fall in price will depend upon the direction and strength of the income effect on the one hand and strength of the substitution effect on the other.