Suppose that initially, bread is $2 per loaf, and cake is $2 per slice. Marie Antoinette has $18 to spend on these items each week. At this income and those prices, Marie consumes 5 loaves of bread and 4 slices of cake. Then, the price of bread DECREASES to $1 per loaf. (The price of cake is still $2.) IF Marie’s budget had also fallen to $13 so that she could still just afford her original bundle, she WOULD choose to spend those $13 on 7 loaves of bread and 3 slices of cake. But since Marie still has her original $18 budget, she actually chooses to buy 4 loaves of bread and 7 slices of cake after the price change. When the price of bread fell from $2 to $1, what was the substitution effect on Marie’s demand for bread?
. Suppose that initially, bread is $2 per loaf,
and cake is $2 per slice. Marie Antoinette
has $18 to spend on these items each week.
At this income and those prices, Marie consumes 5 loaves of bread and 4 slices of cake.
Then, the
$1 per loaf. (The price of cake is still $2.)
IF Marie’s budget had also fallen to $13
so that she could still just afford her original bundle, she WOULD choose to spend
those $13 on 7 loaves of bread and 3 slices
of cake.
But since Marie still has her original $18
budget, she actually chooses to buy 4
loaves of bread and 7 slices of cake after
the price change.
When the price of bread fell from $2 to $1,
what was the substitution effect on Marie’s
demand for bread?
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