PRICE EFFECT

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PRICE EFFECT

Components  Price Cited The movement of the consumer along the price consumption curve, such as from equilibrium point P I to P as a result of a fall in the price of X, is in reality a resultant of two Forces. Tile first of these components is the feeling of Bruce-aloofness that a consumer experiences when the price of X falls. There is Increase in the potential purchasing power of the consumer’s income followrng a relative fall in the price of X. It is Income Effect. It is as if his income has increased and the price of both goods has remained the same. The income effect is the first component of the price effect. The consumer is operating along the income consumption curve.

income effect may be negative. In that case, thc ncgative income effect may dilute or negative altogcther
the positive substitution effect. That is. the dcmand for the commodity, whose price has fallen, may not
much increase or it may dimihist: instead of increasing as in the Giffen case given below. Hence, thc direction in which the quantity demanded of a good will change as a result of a fall in its price will depend upon the direction and strength of the income effect on the one hand and the strength of thc substitution effect.

Thus. the direction of the substitution effect is very clear and cream Nut w e cannot be so sure of the
income effect. The   may be pews rive (i.c .. more of the good may be I if the income goes up) or it may be gaucho (t.e .• in .scare in income may lead to less hing purchased of a good). This will happen if the consumer regards it a an cruciform . Thus. the substitution effect and the II effect may move in the same direction i.e.. the)’ may both be positive, In that case, the positive income effect will reinforce the positive substitution effect in increasing the demand for a good the price of which has fallen. But in some cases. the substitution effect and the income effect pull in opposite directions. That is. the substitution effect is positive. as it generally is but the income effect  be negative. In that case, the  income effect may dilute or negative  the positive substitution effect. That is. the demand for the commodity, whose price has fallen, may not much increase or it may  instead of increasing as in the Geffen case given below. Hence, the direction in which the quantity demanded of a good will change as a result of a fall in its price will depend upon the direction and strength of the income  the one hand and the strength of the substitute n effect on the other .

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PRICE EFFECT