Economist George Stigler once wrote that, according to...

Name: Problem 11, Chapter 21: Principles of Economics
Uploaded: 2019-06-19T14:38:08-08:00
Duration: 1 min 46 s
Channel: Jesse Neumann
Description: Economist George Stigler once wrote that, according to consumer theory, "if consumers do not buy less of a commodity when their incomes rise, they will surely buy less when the price of the commodity rises." Explain this statement using the concepts of income and substitution effects.

Economist George Stigler once wrote that, according to consumer theory, "if consumers do not buy less of a commodity when their incomes rise, they will surely buy less when the price of the commodity rises." Explain this statement using the concepts of income and substitution effects.

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Key Concepts

Income Effect

This concept refers to how a change in a consumer's income affects the quantity demanded of a good. When income increases, consumers often buy more of normal goods and less of inferior goods. In the context of the statement, if a good’s consumption does not decrease with higher income, it indicates that the income effect is not driving a reduction in demand for that good, highlighting that changes in income alone do not lead to a lower purchase quantity.

Substitution Effect

This concept describes how a change in the relative price of a good influences consumer choice, leading them to substitute away from goods that become relatively more expensive toward those that become relatively cheaper. According to consumer theory, even if the income effect does not cause a reduction in consumption when income rises, a price increase makes the good relatively more expensive compared to alternatives. As a result, the substitution effect will compel consumers to buy less of the good, ensuring a decrease in its consumption when its price increases.

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