If the price of a good increases, the substitution effect will
A) always tend to make the quantity decrease, while the income effect could go either way.
B) always tend to make the quantity increase, while the income effect could go either way.
C) go either way, but the income effect will always make the quantity increase.
D) go either way, but the income effect will always make the quantity decrease.

Question

Quizplus · Accepted Answer

The substitution effect occurs when consumers substitute a good that has become relatively more expensive for a cheaper alternative. This leads to a decrease in quantity demanded of the more expensive good. Therefore, the substitution effect tends to make the quantity decrease when the price of a good increases.

On the other hand, the income effect occurs when the increase in the price of a good reduces the real purchasing power of consumers' incomes. This effect could go either way depending on whether the good is a normal or inferior good. For normal goods, as the price of the good increases, the real purchasing power of consumers' incomes decreases, leading to a decrease in quantity demanded. For inferior goods, as the price of the good increases, consumers' incomes are released for other goods, leading to an increase in quantity demanded.

Therefore, the best answer is A because the substitution effect always tends to make the quantity decrease, while the income effect could go either way.

If the Price of a Good Increases, the Substitution Effect