Final answer:
When the price of an inferior good like good Y rises, it has both an income effect and a substitution effect. The income effect refers to the change in consumption of the good due to the change in purchasing power caused by the price rise. The substitution effect refers to the change in consumption due to the change in relative prices. Graphically, this can be shown by plotting the original budget line, pivoting it inward to represent the income effect, and drawing a new budget line to represent the substitution effect.
Step-by-step explanation:
When the price of an inferior good like good Y rises, it has both an income effect and a substitution effect. The income effect refers to the change in consumption of the good due to the change in purchasing power caused by the price rise. In the case of an inferior good, the income effect leads to a decrease in consumption as income increases. The substitution effect refers to the change in consumption due to the change in relative prices. In the case of an inferior good, the substitution effect leads to a decrease in consumption of the inferior good and an increase in consumption of substitute goods.
To illustrate this graphically, you can plot the original budget line representing the initial price of good Y. Then, when the price of good Y rises, the budget line pivots inward from the vertical axis to reflect the reduced purchasing power. This represents the income effect. Next, you can draw a new budget line parallel to the original budget line, but tangential to the original indifference curve. This represents the substitution effect, as it shows the change in consumption of other goods resulting from the price rise of good Y. The intersection point between the new budget line and the original indifference curve represents the equilibrium consumption after considering both effects.