Our analysis of these changes is going to be

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Our analysis of these changes is going to be graphical. We need to draw big graphs to have visible changes. We will look at two cases: a normal good and an inferior good. The more theoretical case of a Giffen good is described in the book as well. It is important to notice that a Giffen good is an extreme case of an inferior good. 2
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Department of Economics University of California, Berkeley Example Suppose the income of a person is $120, the price of good x is $3 and the price of good y is $4. The utility of the consumer is given by u ( x, y ) = xy . Suppose that prices changes: the new prices are P x = 6 and P y = 6. 3 Consumer surplus Whenever we are looking at market demand, we are including many consumers, all of whom have different reservation prices for the good. The eventual market price is in many times different from what they were individually willing to pay, which leaves these consumers with a “surplus.” We can calculate what consumer surplus is if we know the demand curve. As we think about this surplus, we can also consider how this surplus changes with elastic versus inelastic demands. 3
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