All these effect can change the consumer equilibrium,in this context ,we will see the effect on consumer,s equilibrium if there is change in:
i) consumer,s income
ii) prices of commodity
iii) substitusion effect,
these all effect are work in the presence of ,normal goods,inferior
goods, giffon goods.
Now we see about the different kinds of goods.
Normal goods:---------are
those goods on which law of demand is applicable.if there prices
increases----demand decreases and vice versa according the law of demand
Inferior goods:------a
good----the demand for which falls when consumer,s income rise,-----Or-----when
price of that good increase as compare with its substitution.
Example:-------as
in the case of beaf &mutton ------when income increases or the prices of
beaf increase the demand of beaf will falls becoz as compare with mutton beaf
is inferior good.
Giffen goods:----goods
which do not obey the “law of demand”
This idea was presented by sir robbert giffen of great Britain
(1837-1910)
as in laboring class in Britain” when prices of bread (main item of
their diet) rise their bread consumption also rise (they are forced to curtail
their consumption of meat). When the bread price decline then the bread-consumption
also decline (&they tend to buy meat)
after this discussion now we explain the different kinds of “effects”
1:-------- income effect
Definition:----the effect on consumer,s equilibrium due to change
in income while prices of “x” & “y” do not change is said to be “income
effect”
Assumption:--(i)---there is change in income.
(ii)-----
prices are remain the same of both commodity “x” & “y”
(iii)----both
goods in this diagram x & y are normal.x
·
We
suppose that I=10. px=2. py=1. Consumer is in equi-librium at E2 on
IC2, where AA is tanget to IC2 and’ he purchase Ox1 of X-----AND Oy1of Y.
·
If
consumer,s income increases and I=20 px=2 ,py=1(both are same), the “BL” sift
upward as “BB” now equ At E3 on IC3, and purchasing is Ox3 of x And Oy3 of Y.
·
If
consumer,s income decreases and I=5 px=2 ,py=1(same as in assumptions). Now the
“BL” shift down ward. Equilibrium at IC1 on E1.
By joing the points E1, E2 AND E3 we get The “income consumption
curve” (ICC)
Income effect in case of inferior good. Good which is cheaper ,as case of beef and mutton ,if the income of
consumer rises,------he reduces the chases of inferior good which is-----“beaf”
in this situation ICC will bend toward Y axis----- or
If good “x” is inferior
As shown in the diagram when income increases the equilibrium move
from E1 to E2 he increase the purchases of superior good “Y” and decreases of
“X” becoz -------X----- is inferior good.
If good “y” is inferior
as shown in the diagram when income increases the equilibrium move
from E1 to E2 he increase the purchases of superior good “X” and decreases of
“Y” becoz -------Y----- is inferior good.
Finally we reproduce all these possible shapes of ICCs in a single
diagram as under---in this diagram
ICC1 shows both X and Y normal good
ICC2 shows X inferior & Y superiorgood
ICC3 shows X superior & Y inferior goods
ICC4 shows X constant & Y normal goods
ICC5 shows Y constant & X normal goods
Properties of (ICC)
1):---All ICCs start from the origin.
Becoz with zero income the consumer can not purchase any positive
amount of x and y
2):-------An ICC intersect each only once
3):-------CCs derieved from the same indifference map can never
intersect each other
2:-------- price effect OR price changes and
“Consumer
equilibrium”
Definitions:
Price effect-“The effect on
consumer equilibrium due to change in price of goods “x” while the price,s of
other commodity’ “y” and income remain the unchanged ,that effect is said to be
“price effect”
Price consumption
curve (PCC)- The locus of
all successive equilibrium point is known as (PCC)---
-OR---by joining the equilibrium points E0,E1, E2 we get PCC)
Assumptions:-i)The price of “x’ changes and the price of “y” remain the same
ii)There is no
change in income.
Now we explain the price effect with
the help of diagram.we start with the information,
i)--- I=10 px =2
and py=1.
As a result we get the basic budget line which
is “AA” this is tangent to IC1 at E1.hance consumer purchases Ox1 of “x” commodity
ii)if-----
I=10 px =2 and py=1(price of X falls from 2 to 1).
Resultantly the budget line rotates
downward to Xaxis in the from of AB.here the consumer is in equilibrium at
E2where AB is tangent to IC2, & purchasing is Ox1 of “x”
ii) -----
I=10 px =4
and py=1(the price of X rises).
As a result the budget line rotates
leftward in the form of “AC’ the consumer is know I equilibrium at E0 ,where AC
is tangent to IC0,purchasing is Ox0 of
X.
By joining all equilibrium , points
E0, E1, E2, we have price consumption curve (PCC)
Properties:----i) ---The PCC
intersect each IC only once.
ii)---The PCC sloped negatively downward which shows
“lower
the price----more will be demand and vice versa”.
3:--------substitution effect
Defination: ------by
substitution effect mean “that effects on consumer,s equi-librium in condition of
PX. decline and consumer,s rises the purchasing of commodity’ of “X” but as
regard to assumption, there is no increase in his real-income ------and he remnants
on the similar indifference curve:
To understand his concept in a easier way
We explain the “theme and methodology” of
substitution effect.
Theme: ----consumer remain at the same indifference curve---or--- he get two
equilibrium points at the same (one) indifference curve (if price of X falls)
Methodology: --------this
method is attributed to late sir Jhon Hicks.
For this purpose he introduced the “income compensation variation
“method.in which The increase in real income (which occour due to decrease in
price of x) will have to be cancelled or being “offset”
---------------------------------by drawing a line CC which is
parallel to (BL)-----AB.
So the consumer has change the commodity bundle but he remain at
the same (IC)
He increases the purchasing of x by reducing y-----as from X1 to
X2.-----this is (SE)
Explanation: ------
Now we explain the substitution effect with the help of diagram
In this diagram when
·
I=10
px=2 & py=1
We get the budget line (AA).the consumer is in equilibrium at
E1purchasing Ox1 of x
We suppose that when:
·
I=10
px=1 & py=1
As a result the AB is the new BL .as we concerned with the SE of
price of fall.there fore we will offset the real increase in income by illustration
of a new budget-line CC(according to the method asdescribe by J.R.HICKS) ,and
we sketch a new’ budget-line which is parallel─to the budget-line AB. this budget-line
is tan-gent to the same’ IC at E2-point.consequently, the consumer,s purchase’s
OX2 of X OY0 ofY.
Result: --- Thus the increase in purchases of X (by reducing of
Y)----- fromX1to X2 IS (SE). While no change in consumer,s real-income and he
remain,s on the same-IC.
Prove that PE=SE+IE
This analysis
is attributed to Sir Jhon Hicks who proved the price effect is the result of
substitution effect and income effect
----------We here also present this in case of
1:-----normal
good--- (following
the law of demand)
2:-----inferior
good--- (following
the law of demand) as in the case of cheaper goods.if thee prices decreases
demand increases but not as effectively as in normal goods
Relationship between price effect,s substitution effect, and income
effect------ in the case of (normal
goods)
We can examined the relationship
between these with trhe help of this diagram-----
In the digram basic equilibrium
takes place at E1 where consumer purchases Ox1 of X.
Price effect:
--- now we suppose that price of X falls, whicw result in new
BL--- (AC) .
Here consumer is in equilibrium at G
where IC2 is tanget to AC.hance, consumer purchases OX3 of X.accordingly PE= 0X1to 0X3=3 to 9=6as
PE.
|
PX |
QX |
|
3 1 |
3 9 |
It is clear when PX decreases QX
increases.now we see that PE is Composed of IE and SE.
Substitution effect: ---to
find the substitution effect we draw the line MN which is parallel to the
AC.this line is drawn with the view of-----offsetting----the increase in real
income(which become possible due to fall in PX) so that he could remain at
the same IC.Accordingly, the decrease in real income is shown by the difference
AM.this decrease in income is by the method of “income compensation
variation as J.R.Hicks has introduced earlier. The line MN is now tanget to
the same (previous) indifference curve IC1,so according the Hicksian approach
we can deduce the SE =0X1 to OX2=3Tto 5= 2 The movement from E to F is due to
SE.
SE.
|
PX' |
QX |
|
3 1 |
3 5 |
Income effect:THe movement fromF to G is due to IE; IE=
0X2 to OX3=5 to 9=4
Conclusion:- price effect =
substitution effect +income effect
|
OX1-----OX3 3-9 |
OX1-------OX2 3----5 |
+OX2----OX3 + 5-9
6=6 |
Prove that PE=IE+SE(in case of
Inferior good)
In this figure, we follow’ the similar procedure other than with
one diff-erence. Once more, the product X price is declines foremost to a
substitution with regard to the product,s i.e. movements from (A TO B), with
more being-consumed “X1 TO X2”. Though, there is a negative income-effect, dissimilar
the prior example’, and this shows that a movement’ from (B TO C )with less
being-consumed, “X2 to X3”
Even though there
is a negative income effect, in this case, it is never enough to compensate
the substitution-effect, which shows that generally there is still more’ of the
product,s demanded as the consumer,s has moved from “X1 to X3”. Simply, the product
“x” demand-curve is remain sloping down-ward. It is probable, though, for the
inverse income-effect to be satisfactorily larger to compensate the
substitution-effect.
SE =X1 TO X2
IE =X2 TO X3
PE =X1 TO X3
Prove that PE=IE+SE(in case of
Giffen good)
A situation which refers by Giffen good, where the substitution-effect
is compensate by the negative-income-effect and this situation can-be seen─in
the diagram where,s the total of the price change effect disclose that the
total amount of the product-demanded declines “X1 TO X3” as the product-price decline.
PE =X1 TO X3
SE =X1 TO X2
IE =X2 TO X3
In this condition the demand-curve is up-ward sloping─from left to
‘-right “a positive slope” and this particular
form of demand-curve relate,s to a kind of product which is referred to as’ a
Giffen-good. The Giffen-good “so named later than a nine-teenth century
economist,s Sir Robert giffen” is one whetre demand decline as the product price
decline and vice-versa. For certain very low income groups, potatoes may from
an important part of their total expenditure. Therefore, if the price of
potatoes falls this group, finding that their real income has increased, may
substitute products such as meat for potatoes-thus reducing their demand for
potatoes.