4b. Income elasticity of demand

Income elasticity of demand - The demand for a good will change if there is a change in consumer income. Income elasticity of demand (YED) is a measure of that change.

YED measures the responsiveness of demand to a change in income - If the demand for food remained unchanged if income rose then YED would be 0.

A fall in demand when income rises gives a negative value to YED

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How to calculate YED

There are 2 ways to calculate YED depending on the information you are given
If you are given numbers you use -

YED = Y/Q * ΔQ/ΔY

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Therefore if someone's income rises from £20,000 per year to £25,000 and as result, their demand for sandwiches goes from 100 to 120

20000/100 * 20/5000 = 0.8

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If you are given percentages you use:

YED = %ΔQ / %ΔY

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Therefore if someone's income rises by 2% and as a result, their demand for a good falls by 5%

-5%/2% = -2.5

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Positive and negative numbers

• Normal good (YED > 0) - increased income leads to higher demand
• Luxury good (YED > 1) - increased income leads to a bigger percentage increase in demand eg sports cars
• Inferior good (YED < 0) - increased income leads to a fall in demand eg cheap substitutes (supermarket coffee)

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Between -1 and 1 is inelastic
Above 1 is elastic

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Mostly normal or inferior? Why? Luxury? Why? Is Price elastic or inelastic? Why?

Burger King - normal - elastic Kettle chips - normal - elastic Taxi - luxury - elastic Macds - inferior - elastic US - luxury - elastic

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Why do the curves not start at the origin?

• For necessities, people need these to survive so even if income is <0 they will still purchase some (e.g. by borrowing/using savings etc)
• People will not buy luxuries when their income is low

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