Income Effect Of A Price Change

A change in price of a commodity affects its demand.

Income effect of a price change. Income effect on consumer s equilibrium. Its demand curve is affected both by the income effect and the substitution effect. The income effect represents the change in an individual s or economy s income and shows how that change impacts the quantity demanded of a good or service. The price effect indicates the way the consumer s purchases of good x change when its price changes a given his income tastes and preferences and the price of good y.

Income effect arises because a price change changes a consumer s real income and substitution effect occurs when consumers opt for the product s substitutes. In other words the relation between price and quantity demanded being inverse the substitution effect is negative. Income effect attributes how a change in the consumer s income influences his total satisfaction. A movie costs 35 and a dine out costs 20.

So all prices change and their effect on the consumer s equilibrium position can be diagrammatically represented on the indifference map of the consumer. Now he is able to experience more or less satisfaction depending upon the change in his income. This is shown in figure 12 18. Instead the income effect deals with how a change in a product s price affects the amount of a good or service people are able to purchase.

Let s consider a consumer who has a monthly budget of 165 which he allocates between movies and dine outs. The income effect results from an increase or decrease in the consumer s real income or purchasing powerpurchasing power as a result of theas a result of the price change. Assume that the prices of commodities that the consumer purchases remain constant.