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Clancy is a bus driver who enjoys donuts and muffins. Suppose that the price of donuts increases. As a result, the purchasing power of Clancy's paycheck is diminished. Therefore, he reduces his consumption of all goods, including donuts. This phenomenon is known as the effect

User Semenbari
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2 votes

Answer:

INCOME EFFECT

Step-by-step explanation:

Income Effect means change in real income/ purchasing power due to change in price, income staying same.

  • Price Increase reduces real income/ purchasing power, income staying same - because consumer can purchase less from same income.
  • Price decrease increases real income/ purchasing power, income staying same - because consumer can purchase more from same income.

Eg: Income, price of a consumer = Rs100, Rs10 respectively.

Real Income = Income/price = 100/10 = 10. Price fall to 8 increases purchasing power to 12.5 (100/8). Price rise to 12 decreases purchasing power to 8.3 (100/12).

Income Effect : stating - lower purchasing power at higher prices, reduces consumption of all goods and higher purchasing power at lower prices, increases consumption of all goods.

User Nikita Mazur
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