Relative price

The difference and change of relative prices can also reflect the development of productivity.

For example, if all prices rise by 10% there is no change in any relative prices, so if consumers' nominal income and wealth also go up by 10% leaving real income and real wealth unchanged, then demand for each good or service will be unaffected.

In the graphical rendition of the theory of consumer choice, as shown in the accompanying graph, the consumer's choice of the optimal quantities to demand of two goods is the point of tangency between an indifference curve (curved) and the budget constraint (a straight line).

The graph shows an initial budget constraint BC1 with resulting choice at tangency point A, and a new budget constraint after a decrease in the absolute price of Y (the good whose quantity is shown horizontally), with resulting choice at tangency point C. In each case the absolute value of the slope of the budget constraint is the ratio of the price of good Y to the price of good X – that is, the relative price of good Y in terms of X.

This situation can lead to allocative inefficiency, and is one of the negative effects of inflation.