Question

The substitution effect: a) predicts that taxpayers will work harder to pay for consumer products when tax rates increase. b) is one of the effects considered in static forecasting. c) results in the government collecting more aggregate tax revenue than under the income effect. d) is typically more descriptive for taxpayers with lower disposable income. e) None of the choices are correct.

Answer 1

Option E. None of the choices are correct.

Step-by-step explanation:

The substitution effect refers to the situation whereby there is a decrease in sales for a particular product due to the fact that consumers are switching to cheaper alternatives when its price rises.

The substitution effect arises purely out of the need for consumers to be frugal. If a producer raises the price of their commodities, some consumers will opt for a cheaper alternative. For example, if beef prices go up, many consumers will switch to chicken.

A manufacturer can also experience the substitution effect when faced with a price hike for an essential raw material needed for production, he/she may switch to cheaper resources.