Multiple Choice
Which of the following correctly describes the income effect associated with the law of demand?
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5. Consumer and Producer Surplus; Price Ceilings and Floors
Consumer Surplus and Willingness to Pay
Multiple Choice
In which of the following cases would real income rise?
A
The price of a good increases while nominal income remains constant.
B
The price of a good decreases while nominal income remains constant.
C
Nominal income decreases while the price of goods remains constant.
D
Both nominal income and the price of goods increase by the same percentage.
Verified step by step guidance1
Understand the concept of real income: Real income measures the purchasing power of nominal income, i.e., how much goods and services can be bought with the income after accounting for price changes.
Express real income mathematically as \(\text{Real Income} = \frac{\text{Nominal Income}}{\text{Price Level}}\).
Analyze each scenario by comparing how changes in nominal income and price level affect the ratio \(\frac{\text{Nominal Income}}{\text{Price Level}}\).
For example, if the price of a good decreases while nominal income remains constant, the denominator (price level) decreases, which increases the real income ratio, meaning real income rises.
Apply this reasoning to each case to determine whether real income rises, falls, or remains unchanged.
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