Giffen good For most products, price products, price elasticity of demand is negative. In other words, price words, price and demand pull in opposite directions; price goes up and quantity demanded goes down, or vice versa. Giffen goods are an exception to this. Their price elasticity of demand is positive. When price goes up the quantity demanded also goes up, and vice versa. In order to be a true Giffen good, price must be the only thing that changes to get a change in demand. Giffen goods are named after Sir Robert Sir Robert Giffen, Giffen, who was attributed as the author au thor of this Principles of Economics. Economics. idea by Alfred Marshall in his book Principles The classic example given by Marshall is of inferior quality staple foods whose demand is driven by poverty by poverty,, which makes their purchasers unable to afford superior foodstuffs. As the price of the cheap ch eap staple rises, they can no longer afford to supplement their diet with better foods, and must consume more of the staple food. Principles of Economics: Economics: Marshall wrote in the 1895 edition of Principles As Mr. Giffen has pointed out, a rise in the price of bread makes so large a drain on the resources of the poorer labouring families and raises so much the marginal utility of money to them, that they are forced to curtail their consumption of meat and the more expensive farinaceous foods: and, bread being still the cheapest food which they can get and will take, they consume more, and not less of it.
Analysis of Giffen goods There are three necessary preconditions for this situation to arise. They are: The good in question must be an inferior good, good, 2. There There must must be a lack lack of clos closee substi substitut tutes, es, 3. And the good good must must comprise comprise a substan substantial tial percent percentage age of the the buyers buyers income. income. 1.
If precondition #1 is changed to "The good in question must be so inferior that the income effect is greater than the substitution effect" then this list defines necessary and sufficient conditions.
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The Giffen Paradox This can be illustrated with a diagram. Initially the consumer has the choice between spending their income on either commodity Y or commodity X as defined by line segment MN (where M= total available income divided by the price of commodity Y, and N= total available income divided by the price of commodity X). Given the consumers preferences toward the two products, as expressed in indifference curve Io, the optimum mix of purchases for this individual is point A. Now if there is a drop in the price of commodity X, there will be two effects. The reduced price will alter relative prices in favour of commodity X, known as the substitution effect. This is illustrated by a movement down the indifference curve from point A to pointB. At the same time the price reduction causes the consumers’ purchasing power to increase, known as the income effect. This is illustrated by the budget line that pivots out from MN to MP (where P=is the total available income divided by the new price of commodity X). The substitution effect (point A to point B) raises the quantity demanded of commodity X from Xa to Xb while the income effect lowers the quantity demanded from Xb to Xc. The net effect is a reduction in quantity demanded from Xa to Xc making commodity X a Giffen good by definition. Any good where the income effect more than compensates for the substitution effect is a Giffen good.
Empirical evidence for Giffen goods Despite years of searching, no generally agreed upon example has been found. A 2002 preliminary working paper by Robert Jensen and Nolan Miller made the claim that rice and noodles are Giffen goods in parts of China. It is easier to find Giffen effects where the number of goods available is limited, as in an experimental economy: DeGrandp re et al (1993) provide such an experimental demonstration. One reason for the difficulty in finding Giffen goods is Giffen originally envisioned a specific situation faced b y individuals in a state of poverty. Modern consumer behaviour research methods often deal in aggregates that average out income levels and are too blunt an instrument to capture these specific situations. It is for this reason that many text bo oks use the term Giffen Paradox rather than Giffen Good. Some types of premium goods (such as expensive French wines, or celebrity endorsed perfumes) are sometimes claimed to be Giffen goods. It is claimed that lowering the price of these high status goods can decrease demand because they are no longer perceived as exclusive or high status products. However, the perceived nature of such high status goods changes significantly with a substantial price drop. This disqualifies them from being considered as Giffen goods, because the Giffen goods analysis assumes that only the consumer's income or the relative price level changes, not the nature of the good itself. If a price change modifies consumers' perception of the good, they should be analsed as Veblen goods. Some economists question the empirical validity of the distinction between Giffen and Veblen goods, arguing that whenever there is a substantial change in the price of a good its perceived nature also changes, since price is a large part of what constitutes a product. However the theoretical distinction between the two types of analysis remains clear; which one of them should be applied to any actual case is an empirical matter.
A Giffen good is a good whose consumption increases as its price increases. (For a normal good, as the price increases, consumption decreases.) Thus, the demand curve will be upward instead of downward sloping.
“””A giffen good has an upward sloping demand curve because it is exceptionally inferior. It has a strong negative income elasticity of demand such that when a price changes the income effect outweighs the substitution effect and this leads to perverse demand curve.””” Read more: http://wiki.answers.com/Q/Demand_curve_of_a_giffen_good#ixzz2qIjr9KXz
Normal Good “”“An item for which demand rises when income rises and falls when income falls. Name brand cereal (compared to store brand cereal) would be an example of a normal good.”””
In economics
, normal goods are any goods for which demand Demand (economics) In economics, demand is the desire to own anything and the ability to pay for it and willingness to pay . The term demand signifies the ability or the willingness to buy a particular commodity at a given point of time.... increases when income increases and falls when income decreases but price remains constant, i.e. with a positive income elasticity of demand. The term does not necessarily refer to the quality of the good. Depending on the indifference curve s, the amount of a good bought can either increase, decrease, or stay the same when income increases. In the diagram below, good Y is a normal good since the amount purchased increases from Y1 to Y2 as the budget constraint shifts from BC1 to the higher income BC2.
In economics Economics Economics is the social science that analyzes the production, distribution, and consumption of goods and services. The term economics comes from the Ancient Greek from + , hence "rules of the house"... , normal goods are any goods for which demand Demand (economics) In economics, demand is the desire to own anything and the ability to pay for it and willingness to pay . The term demand signifies the ability or the willingness to buy a particular commodity at a given point of time.... increases when income increases and falls when income decreases but price remains constant, i.e. with a positive income elasticity of demand. The term does not necessarily refer to the quality of the good. Depending on the indifference curve Indifference curve In microeconomic theory, an indifference curve is a graph showing different bundles of goods, each measured as to quantity, between which a consumer is indifferent. That is, at each point on the curve, the consumer has no preference for one bundle over another. In other words, they are all equally...
s, the amount of a good bought can either increase, decrease, or stay the same when income increases. In the diagram below, good Y is a normal good since the amount purchased increases from Y1 to Y2 as the budget constraint Budget constraint A Budget constraint represents the combinations of go ods and services that a consumer can purchase given current prices with his or her income. Consumer theory uses the concepts of a budget constraint and a preference map to analyze consumer choices... shifts from BC1 to the higher income BC2. G ood X is an inferior good Inferior good In consumer theory, an inferior good is a good that decreases in demand when consumer income rises, unlike normal goods, for which the opposite is observed. Normal goods are those for which consumers' demand increases when their income increases.... since the amount bought decreases from X1 to X2 as income increases.
