3. Income elasticity of demand
Where the quantity demanded is
determined by the income of the
consumers.
In other words , Income elasticity of
demand measures the responsiveness
of quantity demanded to changes in real
income.
As income ↑ demand for the good
increases so, quantity demanded at the
same price also usually ↑ .
4. Contd..
ey = % change in quantity demanded of the product
% change in consumers’ income
Example:
A rise in consumer real income of 7%
leads to an 9.5% rise in demand for pizza
deliveries.
The income elasticity of demand:
= 9.5/ 7 = +1.36
5. Contd..
Goods with a positive income
elasticity of demand (demand ↑ if
income ↑ or demand decreases if
income decreases) – are
normal goods.
Goods with a negative income
elasticity of demand (demand ↑ if
income decreases and decreases if
income ↑) – are inferior goods.
6. Contd..
Normal goods can further be classified
as luxury or essential goods.
If income elasticity of demand is greater
than one – luxury good.
If income elasticity of demand is less
than one – essential good.
7. Effect
Income elasticity
coefficient
Classification of
good
A proportionately
larger change in
the quantity
demanded
>1
Luxury good
A proportionately
smaller change in
the quantity
demanded
<1
Normal
A negative change
in the quantity
demanded
<0
Inferior good
8. FEW EXAMPLES
Luxury
Normal Necessity
Inferior Good
Air travel
Fresh vegetables
Frozen vegetables
Fine wines
Instant coffee
Cheap snacks
Luxury chocolates
Natural cheese
Processed cheese
Private education
Fruit juice
Cheap oils
Private health care
Spending on
utilities
Tinned meat
Antique furniture
Shampoo /
toothpaste /
detergents
Value “own-brand”
bread
Designer clothes
Rail travel
Bus travel
9. Cross elasticity of demand
Measures the responsiveness of quantity
demanded of a particular good to changes
in the price of a related good.
ec = % change in quantity demanded of the product A
% change in the price of product B
For substitutes >> cross elasticity of demand
is positive
For complements >> cross elasticity of
demand is negative
For unrelated goods >> cross elasticity of
demand is zero
10.
Examples…
What happens to Qd of butter if the price
of margarine increases.
What happens to Qd of chips if the price
of fish increases.
What happens to the Qd of pencils if the
price of coke increases.
Obviously NO EFFECT !! As these goods
are not related ..
