Final answer:
Income, prices, and preferences all influence consumer choices. The substitution effect and the income effect are two concepts used to explain how consumers respond to price changes.
Step-by-step explanation:
In economics, income, prices, and preferences all play a role in determining consumer choices. Income affects consumer choices because it determines the amount of money a consumer has available to spend on goods and services.
Higher income can lead to increased purchasing power and the ability to buy more expensive goods. Prices also impact consumer choices. When the price of a good increases, consumers may choose to buy less of that good and switch to more affordable alternatives.
Preferences refer to the personal tastes and desires of individual consumers.
Consumer preferences can vary greatly, and they influence the types of goods and services that consumers choose to purchase. For example, some consumers may prefer organic products, while others may prioritize price over quality.
Now, let's contrast the substitution effect and the income effect. The substitution effect occurs when a consumer switches to a cheaper alternative when the price of a good increases.
For example, if the price of beef increases, some consumers may choose to buy chicken instead.
On the other hand, the income effect refers to the change in consumption that occurs when a consumer's purchasing power changes due to a change in income. When income increases, consumers may choose to buy more of a good or service. Conversely, when income decreases, consumers may cut back on their purchases.