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Which of the following might explain how a price decrease might cause a decrease in quantity demanded and an upward-sloping demand curve? A
Which of the following might explain how a price decrease might cause a decrease in quantity demanded and an upward-sloping demand curve?
A. The good is inferior and the income effect is stronger than the substitution effect.
B. The good is normal and the income effect is stronger than the substitution effect.
C. The good is normal and the income effect is weaker than the substitution effect.
D. The good is inferior and a luxury.
E. The good is highly subsidized, creating a large increase in marginal utility per dollar.
Expert Solution
If the good is inferior, an increase in income leads to a fall in quantity demanded for that good.
If the price of an inferior good falls, the substitution effect induces the consumer to buy more of the cheaper good .The income effect works in opposite direction and induces the consumer to buy less of the good for which price has fallen as the real income of the consumer increases. Both the effects work in the opposite direction. But an overall fall in the quantity demanded is experienced only when income effect dominates substitution effect, giving an upward sloping demand curve in quantity and price plane.
Hence, the correct option is (a) The good is inferior and the income effect is stronger than the substitution effect.
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