ECON 401 Lecture Notes - Lecture 5: Normal Good, Inferior Good, Utility
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ECON 401 Full Course Notes
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The effects of income and price changes on. Maximizing utility algebraically (i. e. without specific numbers for p1; p2; y ), we get the demand functions: d1(p1; p2; y ) and d2(p1; p2; y ). As income goes up, demand for good 1 may go up if it"s a normal good. If it"s an inferior good, the demand for good 1 will go down. The curve connecting demand at different incomes is called the income. In the picture below, the black curve is the income consumption curve. For inferior goods the income consumption curve is backward bending. Plotting y on the vertical axis, and d1(p1; p2;y ) on the horizontal axis, we get the engel curve: A price increase has substitution and an income effect: We can solve the expenditure minimization problem with the old utility level (before price increase) but with the new prices (e*)