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Darius buys only lobster and chicken. Lobster is anormal good, while chicken is an inferior good. Whenthe price of lobster rises, Darius buysa. less of both goods.b. more lobster and less chicken.c. less lobster and more chicken.d. less lobster, but the impact on chicken isambiguous.
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c. less lobster and more chicken.
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The Theory of Consumer Choice
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So here we're gonna be talking about lobster and chicken so we know that lobster is a normal good. So what happens to a normal good if our income increases, as are in home, goes up? What happens to the demand for lobster? What does that relate to in terms of our demand curve? So if it's normal, good as the income increases, our demand will also increase. So if we want to look at that graphically, we have a demand curve with our price and our quantity, and we'll just put a generic demand curve here, demand to the dirt so it's downward sloping. And what happens when our income was to go up. So what that would do is, as our income is to increase, our demand will also increase. That will cause our entire demand curve to shift outwards. So this is something like, let's say, caviar. As our income goes up, we might demand more caviar. Now let's talk about chicken. So chicken, in this case is an inferior good. So if chicken is inferior, what does that mean for our income in demand relationship? So as our income goes up the demand for chicken, we'll do what? So let's talk about inferior goods. These are things that caused Demand should decrease as you make more money or as your purchasing power increases. So when we're talking about income increasing and demand decreasing, let's see what that looks like visually. So we have another generic demand curve. Demand to the dirt downward sloping, and let's do another income increase. So as our income is to increase, this will cause our entire demand crypt to shift to the left. So this would be something like top ramen. When you're in college to make that much money probably will demand lots of Roman. However, as you make more money and as your income increases, your demand for top Rahman will probably decrease. So these are just kind of ways that you can think about the normal and inferior goods and their income and demand relationships. So in this problem we have the price of lobster increasing. So as the price of lobster goes up, what happens? So first we're gonna talk about the income effect, and the income effect is closely related to purchasing power. So the income homes, the income, in fact, is related to purchasing power So let's give a quick example. If our income we make $100 that's our salary. Make $100 the price of lobster goes from Let's say it was $10 before That's our P one. And now he, too is $20. They double the price of lobster. It increased, right? So what's gonna happen is if we were to measure our income, not in dollars. So let's say I didn't say Okay, I make $100. Let's say I measured it in terms of lobsters, the purchasing power, the amount of lobsters Aiken by That means that now my per just sing power purchasing power is going to be going from here where I could make 10 lobsters. My previous purchasing power was I could buy 10 lobsters with all my income. Now I can only buy five lobsters. So previously I had a lot of purchasing power. I had 10 lobsters worth of purchasing power when the price was $10 for lobster. Now it's $20 for lobster, so my purchasing power has diminished. Now, with purchasing power going down, that means that your income in terms of lobsters is going down So what that means is our income in terms of lobsters has decreased, and that is now going to go back to whether or not we had normal or inferior goods. So if our income goes down, what's gonna happen to the demand for lobster? If our income goes up, the demand goes up. So if the income goes down, that's adjust that the demand for lobster is going to decrease now. If our income goes down, what is that going to do to the demand for chicken? So again, chicken is an inferior good right? That means what income goes up. The demand is going down. So just flip these arrows. And if our income goes down, the demand for chicken is going to increase. So that is the income effect. The income effect suggests that we are going to demand less lobster and more chicken if the price of lobster has increased. So the price of lobster increased and the income effects makes it that the demand for lobsters decreasing and the demand for chicken is increasing. Now let's talk about the substitution effect. If the price of lobster has gone up and the price of lobster is now. $20 right? So previously I was able to have $10 lobster and now I can have on the $20 officer. Right? So the price has gone up Price of love. And let's talk about purchasing power again. Before, I used to be able to buy 10 lobsters. Now I can only buy five lobsters. Now let's talk about chicken. If chicken costs $5 before and it still costs $5 now. Previously I had 20 chickens were purchasing power. These are dollars. These are the prices of chicken crisis. Again. This is the price. Oh, okay. Cut me off their price of lobster over here. So does the chicken say the same? Now? I can still buy 20 chicken. These are my purchasing powers. So the substitution effect suggests that previously if I was to say, give up a lobster, how much chicken could I buy? So previously, when we had P one, when we had $10.5 dollars or prices, you can bring these numbers down here. And so previously I could buy 10 to 20. That was my ratio. And if you simplify that, that means 1 to 2 for every one lobster. I could buy two chicken for every one lobster. I could buy two chicken. If I was to get $10 back from lobster sale, I could buy two chicken with that money. So that was a one. Lobster 222 chicken. So now, in R p two scenario, when the prices have changed, now we're at a $20 lobster, right? And so what that means is we'll bring this time this number down. So I cannot buy five lobster for every 20 chicken. So that means that I have a 1 to 4 ratio. Just divide this symbol, fight down, have a wonderful or issue so for everyone. Lobster. I give up. I can buy four chicken. So what this suggests is that the substitution effect has increased for everyone. Lobster. I could buy two chicken. Now for every one lobster I give up, I could buy four chicken instead of the opportunity. Cost of lobster has gone up. And what that means is that we're going to buy less lobster. So the demand for lobster is gonna go down And the demand for chicken because now it relatively costs less. Previously, I had to give up one lobster and I would only get two chicken. Now I give up one lobster and I get for chicken. So let me bring my curse over Demand for chicken is gonna go Oh, so now you can say All right. Well, my income effect is saying that the demand for lobster is going down and so is my substitution effect. My income effect is saying that the demand for chicken is going up and so is my substitution effect. So since both of these are in accordance with each other since they both are the same, the arrows are pointing the same direction. We know that the income effect makes our demand for lobster go down. And so it is a substitution effect. So this is the substitution effect, right? Going down, going down, going up and going up. So that means that our general answer is going to be a combination of these two. And so what that means is the grand answer will be that the demand for lobster is gonna decrease and the demand for chicken is going to increase. So you just combined these together and you combine these together and now you got your final answer, which is that the demand for lobster is gonna go down and the demand for chicken it's gonna go up, and that's the answer.
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