2.5 income elasticity of demand (Econ)

Income elasticity of demand (YED)

A measure of how responsive the quantity demanded of a good is to a change in consumer income

YED formula

YED = % change in quantity demanded divided by % change in income

Normal good

A good with a positive YED. Income and quantity demanded move in the same direction so as income rises QD rises

Inferior good

A good with a negative YED. Income and quantity demanded move in opposite directions so as income rises QD falls

Necessity

A good with a YED between 0 and 1 (0 < YED < 1). Demand is income inelastic

Luxury

A good with a YED greater than 1. Demand is income elastic

Unitary income elasticity

YED = 1. Quantity demanded changes by the same percentage as income

YED = 0

Quantity demanded does not respond to a change in income

Engel curve

A curve showing the quantity demanded of a good at each level of consumer income holding all prices constant

Engel's law

As household income increases the percentage of income spent on food decreases while spending on other items increases

Positive YED means the good is a…

Normal good

Negative YED means the good is a…

Inferior good

0 < YED < 1 means the good is a…

Necessity (income inelastic)

YED > 1 means the good is a…

Luxury (income elastic)

What happens to demand for an inferior good when income rises?

Demand shifts left because YED is negative

What happens to demand for a necessity when income rises?

Demand shifts right by a small amount because YED is between 0 and 1 (income inelastic)

What happens to demand for a luxury when income rises?

Demand shifts right by a large amount because YED is greater than 1 (income elastic)

What does a downward-sloping line show on a diagram with income on the vertical axis and quantity on the horizontal axis?

Negative income elasticity (an inferior good)

Whether a good is a necessity or a luxury…

Depends on the situation