Suppose a consumer spends her entire budget of $M on consuming two goods, X and Y. Both these goods are normal goods. Price of X and Y are denoted by and respectively. Using this information, answer the following questions.

(i) Draw a diagram showing the relevant budget lines and indifference curves when the price

of X decreases (say from to ). In your diagram, identify the substitution effect and

income effect of the decrease in price of X.

(ii) Draw another diagram showing the corresponding demand curve for good X. Show two

points, called A and B, that lie on this demand curve. Point A is associated with the higher price of X (i.e. ) and point B is associated with . Is the utility level at point A higher or lower than that at point B? Is the at point A higher or lower than that at point B?

[Note: Draw large, clear, and properly labeled diagrams. Marks will be deducted for unclear diagrams. It is not necessary to use graph paper for the diagrams.].