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Adjusting to price changes

31 December, 2015 - 15:43

Next, consider the impact of a price change from the initial equilibrium E_0 in Figure 6.10. Suppose that jazz now costs more—say $25. This reduces the purchasing power of the given budget of $200. The new jazz intercept is reduced from 10 to 8 (= $200/$25)—the number of visits possible if Neal spends all his income on jazz. The budget constraint becomes steeper and rotates around the snowboard intercept H, which is unchanged because its price is constant. The new equilibrium is at E_2, which reflects a lower level of satisfaction because the affordable set has been reduced by the price increase. As explained in Section Choice with measurable utilityE_0 and E_2 define points on the demand curve for jazz (J_0 and J_2): They reflect the consumer response to a change in the price of jazz with all other things held constant. In contrast, the price increase for jazz shifts the demand curve for snowboarding: As far as the demand curve for snowboarding is concerned, a change in the price of jazz is one of those things other than own-price that determine its position.