Now consider a price increase. Suppose we examine some student's monthly budget for Ramen noodles (R) and Other things (O). She is originally purchasing RO packs of noodles when the price of Ramen noodles falls so that on her new budget constraint she purchases RN packs.

   As before, to separate out the income and substitution effects we need to compensate her for the price change. In this case, since price fell we compensate her by taking away income to restore her ability to purchase only her original consumption bundle.

Copyright © 1995-2004, Inc. - All Rights Reserved