Neville from your workbook has a friend named Peregrine. Peregrine has the same demand function for claret as Neville, namely q = .02m - 2p, where m is income and p is price. Peregrine's income is $6,500 and he initially had to pay a price of $50 per bottle of claret. The price of claret rose to $60. The substitution effect of the price change

Question

Quizplus · Accepted Answer

To calculate the substitution effect, we hold real income constant and calculate the change in quantity demanded due to the change in price. 
Initial quantity demanded:
q = 0.02(6500) - 2(50) = 70
New quantity demanded:
q' = 0.02(6500) - 2(60) = 56
The change in quantity demanded due to the price change is: 
ΔqS = q' - q = 56 - 70 = -14
Therefore, the substitution effect of the price change reduced Peregrine's demand by 14 bottles of claret.

Neville from Your Workbook Has a Friend Named Peregrine