The income effect of a price change is described by which of the following statements?
A) When the price of a good falls, consumers have an implicit increase in income and can now buy more of the good.
B) When the price of a good falls, consumers will now substitute this lower priced good for more higher priced goods.
C) The income effect is the relative change in the amount of a good consumed when the price of another good changes.
D) The income effect shows how a change in income at a given price will affect the quantity of a good purchased.

Question

Quizplus · Accepted Answer

The income effect refers to the change in the quantity demanded of a good due to a change in the consumer's purchasing power as a result of a change in the price of the good. When the price of a good falls, consumers have an implicit increase in income and can now buy more of the good. This leads to an increase in quantity demanded. Choice B is referring to the substitution effect. Choice C is incorrect as it mistakenly refers to the cross-price elasticity of demand. Choice D refers to the effect of a change in income at a given price, which is not the same as the income effect of a price change.

The Income Effect of a Price Change Is Described by Which