relatively less expensive—in this case, the pizza on the vertical axis. The two arrows labeled with “s” for

“substitution effect,” one on each axis, show the direction of this movement.

The income effect is the movement from point C to B, which shows how Ogden reacts to a reduction in his

buying power from the higher indifference curve to the lower indifference curve, but holding constant the

relative prices (because the dashed line has the same slope as the new budget constraint). In this case, where

the price of one good increases, buying power is reduced, so the income effect means that consumption of both

goods should fall (if they are both normal goods, which it is reasonable to assume unless there is reason to

believe otherwise). The two arrows labeled with “i” for “income effect,” one on each axis, show the direction of

this income effect movement.

Now, put the substitution and income effects together. When the price of pizza increased, Ogden consumed
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