, a Giffen good is a term used to describe a commodity
for which demand
increases at higher prices and falls at lower prices, and in so doing, violates the law of demand
. Giffen goods are closely related to inferior good
This strange behaviour, a rise in price causing a rise in demand, was first documented by Sir Robert Giffen, after he observed the effect at the end of the 19th century, when the price of the bread relied on by the poor as a staple food source was fluctuating. Giffen realised that when the price of bread rose, people could no longer afford more luxurious items, as they had to spend more on bread. When the price fell, as bread made up the bulk of their diet, they enjoyed a large increase in their real income they could start buying more luxury goods
The effect can be explained by noting that when the price of a product rises, two effects come into play
- Substitution effect
This effect is demonstrated when a price rise in one commodity causes an increase in demand in other related commodities whose price has not risen, as consumers switch to the other product.
- Income effect
This effect is a result of the price rise, where the spending power of consumers is reduced,and they can now do less with their money than they could before prices rose, as though their income had fallen and no prices had changed.
With a Giffen good, demand for it rises as the income of consumers falls, But this good income effect on the demand for the Giffen good overwhelms a weak substitution effect, which for all commodities causes consumers to switch purchases from items whose prices rise.
Giffen goods should not be confused with so called 'prestige goods' or 'snob goods', where the simultaneous rise in price and demand is accounted for by the fact that some people enjoy paying for the knowledge that certain of their possessions are expensive
The Penguin Dictionary of Economics