Neville from your workbook has a friend named Cedric.Cedric has the same demand function for claret as Neville, namely q = .02m - 2p, where m is income and p is price.Cedric's income is $6,000 and he initially had to pay a price of $40 per bottle of claret.The price of claret rose to $60.The substitution effect of the price change
A)reduced his demand by 24.
B)reduced his demand by 40.
C)reduced his demand by 56.
D)increased his demand by 40.
E)reduced his demand by 34.

Question

Quizplus · Accepted Answer

The substitution effect is calculated by keeping utility constant and adjusting for the price change. Initially, Cedric's demand was q = .02(6000) - 2(40) = 40. With the price increase to $60, the substitution effect reduces demand by 24, calculated as the change in quantity demanded due to the price change while keeping real income constant.

Neville from Your Workbook Has a Friend Named Cedric