Question

Suppose Coke and Pepsi are substitutes and the price of Pepsi increases. In addition, the income of individuals increased. If the quantity demanded of Coke stayed the same as a result of both of the latter changes, can you determine if Coke is a normal, neutral, or inferior good? Briefly explain.

Answer 1

Coke is an inferior good.

Since Coke and Pepsi are substitute goods, the cross-price elasticity is positive and thus an increase in price of Pepsi will increase the demand for coke.

Since after the income increase, the net effect on quantity demanded of coke is nil, it means that the demand has decreased with an increase in income to compensate for the increased demand due to increase in price of Pepsi

Thus, Coke is an inferior good as there is a negative relation between the income and demand of coke (as income increases, the demand for coke falls)