With the fall in price of X the consumerâ??s real income or purchasing power would increase. In order to find out the substitution effect, this gain in real income should be wiped out by reducing the money income of the consumer by such an amount that forces him to remain on the same indifference curve IC on which he was before the change in price of the good X. In order to buy X more he moves on the same indifference curve IC from point Q to point T. Thus downward movement of indifference curve
The substitution effect relates to the change in the quantity demanded resulting from a change in the price of good due to the substitution of relatively cheaper good for a dearer one. The substitution effect is the increase in the quantity bought as the price of the commodity falls, after adjusting income so as to keep the real purchasing power of the consumer the same as before. This adjustment in income is called compensating variations and is shown graphically by a parallel shift of the new budget line until it become tangent to the initial indifference curve. Therefore, the substitution effect of fall in the price of the commodity will lead to movement from lower Indifference curve to a higher one. Answer is C.