Income Elasticity of Demand

Elasticity! Post 2

In microeconomics a topic I struggle with is Elasticity. So this is a series of posts to consolidate my understanding.

There are 4 types to know about for AS.

Income Elasticity of Demand (YED)
The second type is income elasticity of demand, which measures the responsiveness of demand to a change in income.
It is measured by the following formula

Income Elasticity of Demand (YED) = %Change in Quantity Demanded/ %Change in Income

This is very similar to price elasticity of demand, in what is measured and the way it is calculated

There are 3 types of good:

• Inferior
• Normal
• Luxury

Inferior goods occur when an increase in income leads to a fall in demand, therefore these have a negative YED. e.g. Charity Shop Clothes and Tesco Value Butter. As your income rises you can afford to buy better quality alternatives instead.

Normal goods occur when an increase in income leads to an increase in demand for the good, so the YED is larger than 0. Most goods fall under this category as an increase in income means more is demanded.

Luxury goods are those which an increase in income leads to a much larger increase in demand for this good. So the YED is greater than 1 this means demand is income elastic, for example items such as holidays, jewellery and technology.

This is important as in events such as a recession demand for luxury goods will fall and demand for inferior goods will increase, this can give firms information about the level of stock they need to produce and help them predict future demand.