Question

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7. The substitution and Income effects А. Аад Hubert Ilves in San Francisco, but his girlfriend, Stella, Ilves in Los Angeles. He normally flies down to see her twice a month, but if his income were higher, he would increase the number of flights he took to see her. Air travel is good for Hubert. Suppose Increased airport security measures raise the price of airline tickets while other prices in the economy remain constant. Because of the higher fares, this month he only files down once and drives down once instead. The overall change in quantity demanded is the result of two effects, which can either move in the same or opposite directions. The substitution effect the quantity he demands, and the income effect the quantity of air travel he demands. True or False: This type of good always obeys the law of demand. O True False Stella is on a budget and generally takes the bus to get around the city. If she had more money, she would take fewer bus trips and more cab rides. Therefore, bus rides are good for Stella. Suppose the cost of bus rides falls, and Stella takes more bus rides. The substitution effect the quantity of bus rides she demands, and the income effect the quantity she demands. True or False: For goods of this type, the substitution effect usually dominates. O True O False

Answer 1

Air travel is a normal good for Hubert.

( This is because as the income rise, he would increase the air travel. Demand for normal good increases as the income rises.)

The substitution effect decrease the quantity he demands, and the income effect decrease the quantity of air travel he demands.

(This is a case of normal good, both effects are working in Same direction. Substitution effect suggest consumer to Consume the cheaper good. Due to price rise, purchasing power has fallen, less air travel will be demanded).

True, they follow law of demand.

For Stella,

Inferior; increase; decrease

(In case of inferior goods the income effect works in opposite direction to the substitution effect. When price of an inferior good falls, its negative income effect tends to reduce the quantity purchased, while the substitution effect tends to increase the quantity purchased.)

False, its not always that substition effect dominates in case of inferior good