Question

Is a demand curve showing both the substitution and income effect flatter or steeper than the...

Is a demand curve showing both the substitution and income effect flatter or steeper than the demand curve showing only the substitution effect? Graphically show and Explain. Provide a full answer.

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Answer #1

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Flatter because here demand is more (for price falls) because it includes effect of change in real income on addition to substitution effect. As price falls from p1 to po demand due to substitution effect is only shown by D but due to positive income effect (real income rises) demand rises greater and is shown by D1. Similarly for an increase in price real income falls and thus demand is less than shown by a demand curve which doesn't reflect income effect

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