When the price of corn increases, the quantity of corn demanded falls. Explain this change in terms of income and substitution effects
What will be an ideal response?
When the price of corn rises, households have less purchasing power than before. If corn is a normal good, this means that they will consume less of it. This is the income effect. Also, an increase in the price of corn makes corn relatively more expensive. Thus, households will shift away from purchasing corn to purchase relatively cheaper goods. This is the substitution effect. Both effects imply that the quantity of corn demanded will fall as the price of corn rises.
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