In: Economics
The income effect: It is the change in demand for a good or service caused by a change in a consumer's purchasing power resulting from a change in real income. This may happen if price of goods that consumer buys decreases. So consumer will be left with more income.
If an individual is a buyer:
If the good is a normal good then increase in income will increase its demand. Example- A brand new car. Hence there will be positive sign. Income elasticty of demand will be positive.
Income elasticity of demand (Yed) : % change in quantity demanded/% change in income
In this case, increase in income will increase demand.
If the good is a inferior good then increase in income will decrease its demand. Example- A second hand car.
In this case, increase in income will decrease demand. Hence negative sign.
If an individual is a seller:
If price increases then seller will supply more good. Hence, it will have a positive sign due to law of supply. However, if a price increase is due to change in costs of raw material then sellers will decrease supply and it will have a negative sign.