This is the continuation of the previous blog where we understood the concept of consumer equilibrium.
The consumer equilibrium is subject to change due to Income Effect & Substitution Effect. The sum of these two is known as Price Effect.
Consumer Surplus is a beautiful concept that implies the surplus or difference between the price a consumer is ready to pay for a commodity (Ex-Ante) & the price that the consumer actually pays (Ex-Post). It is seen in conjunction with Marginal Utility (MU) i.e.. the utility gained from the consumpt'n of an additional unit of commodity. Usually the utility diminishes with additional units of consumption there by leading a new concept 'Law of Diminishing MU'.
The consumer equilibrium is subject to change due to Income Effect & Substitution Effect. The sum of these two is known as Price Effect.
Income Effect:
The increase or decrease in income of consumer results in change in consumer equilibrium. Let us refer to the figure below. IC1 shows the initial equilibrium state, keeping other things constant, if the income of consumer increases the equilibrium formed by IC1 will shift to IC2. The income consumption curve (ICC) is formed by joining the equilibrium points.
Substitution Effect:
The change in consumer equilibrium is also caused by presence of other substitute goods in the market known as Substitution Effect. Let's refer to the figure below. The point 'P' is the initial equilibrium point which is shifted to Q due to availability of substitute goods.
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