Income Effect: When the price of a product, say, product Y, falls, people consuming the product will experience an increase in their purchasing power or “real income,” which reflects the amount of different products that they can buy with their incomes. With this increase in real income, the people will be able to buy more of product Y whose price has declined, or more of the other products. Please notice that they will be left with more money in their pockets, if they continue to buy the same amount of product Y after the price of good Y, (P_y) goes down. As it is understood from the information given the correct answer is “D”.

A product is said to be inferior if the demand for that product goes down when the income of the consumers increases. Tastes and preferences are non-price factors which may cause changes or shifts in demand curve.

Substitution effect: When the price of product Y, (P_y) falls, MU_y/P_y ratio will go up, exceeding MU/P  ratio of all other products in the consumption basket. This will make product Y relatively more attractive than other products, whose prices have stayed unchanged. As a result, consumers will want to purchase more Y, while lowering the consumption of some of the other products until they equate  MU/P ratios of all products once again. The positioning of the demand curve on the Quantity-Price plane is influenced by non-price factors such tastes and preferences, income, prices of related goods, population, seasons and expectations.