Degrees of Income Elasticity of Demand

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·         Degrees of  Income Elasticity of Demand

Degrees of Income Elasticity of Demand

Income elasticity measures “how sensitive the demand is to the change in income.” As a consumer’s income rises, his demand for goods and services also increases. But sometimes, Demand for goods and services decreases with a rise in consumer income. It basically, depends on what type of goods are we talking about? Generally, Goods are divided into three categories: a. Normal goods b. Inferior goods c. Necessary goods. Normal goods (High-quality goods) have positive income elasticity. Inferior goods (Low-quality goods) have negative income elasticity and Necessary goods have zero income elasticity. Therefore, a detailed explanation of various degrees of elasticity is given below:

1.      Positive Income Elasticity

1.1  More than unitary  income elastic demand

1.2   Unitary income elastic demand

1.3   Less than unitary income elastic demand

2.       Negative Income Elasticity

3.      Zero Income Elasticity

1. Positive Income Elasticity

Positive income elasticity refers to a situation when an increase in income leads to an increase in quantity demand for the commodity and vice versa. The income and quantity demanded are positively related to each other. In simple words, if income rises, demand also rises and if income falls, demand also falls. Normal goods such as electronic appliances, comforts, etc. usually have a positive income elasticity of demand. The demand curve remains upward sloping as there is a positive relationship between income and quantity demanded.  Further, Positive income elasticity is divided into three subcategories as follows:

1.1  More than unitary income elastic demand

   1.2 Less than unitary income elastic demand

    1.3 Unitary income elastic demand

1.1. More than Unitary Income Elastic Demand

It refers to a situation when a percentage change in quantity demand is greater than the percentage change in income. Generally, the Income elasticity of articles with comforts and luxuries is greater than unity (or E_Y > 1). In Figure 1.1, the demand curve (DD) is sloping upward from left to right showing that the change in quantity demand is more than the change in income. The demand curve is flatter in case of more than unitary income elastic demand.

More than Unitary Income Elastic Demand Example

When the income of a consumer increases from ₹ 60 to ₹ 80, (33.3%), the quantity demand also increases from 5 units to 15 units, (200%). It can be interpreted that the increase in quantity demanded is more than the increase in income. In this case, the value of income elasticity i.e. E_Y is 6>1.

Fig 1.1: More than Unitary Income Elastic Demand (E_Y>1)

1.2. Unitary Income Elastic Demand It refers to a situation when a percentage change in quantity demand is exactly equal to the percentage change in income. The income elasticity of demand is equal to 1 (or EY = 1). In Figure 1.2, the demand curve (DD) is sloping upward from left to right showing that the change in quantity demand is equal to the change in income. Unitary Income Elastic Demand Example When the income of a consumer increases from ₹ 50 to ₹ 70, (40%), the quantity demand also increases from 10 units to 14 units, (40%). It can be interpreted that the increase in quantity demanded is exactly equal to the increase in income. In this case, the value of income elasticity is equal to unity (or EY = 1).  Fig 1.2: Unitary Income Elastic Demand ( EY=1) 1.3. Less than Unitary Income Elastic Demand It refers to a situation when a percentage change in quantity demand is less than the percentage change in income. Generally, the income elasticity of articles with necessities is less than unity (or EY < 1). In Figure 1.3, the demand curve (DD) is sloping upward from left to right showing that the change in quantity demand is less than the change in income.  Less than Unitary Income Elastic Demand Example When the income of a consumer increases from ₹ 50 to ₹ 70, (40%), the quantity demand also increases from 10 units to 12 units, (20%). It can be interpreted that an increase in quantity demanded is less than an increase in income. In this case, the value of income elasticity is less than equal to one i.e. EY <1. The demand curve remains steeper in case of less than unitary income elastic demand. Fig 1.3:  Less than Unitary Income Elastic Demand ( EY <1) 2.      Negative Income Elasticity Negative income elasticity refers to a situation when an increase in income leads to a decrease in quantity demand for the commodity and vice versa. In this situation, income and quantity demand is negatively related to each other. In simple words, when income rises, demand falls and when income falls, demand rises. Inferior goods (low-quality goods) such as coarse grains, low-fat dairy products, etc. usually have a negative income elasticity of demand. For example- A person earns a monthly salary of ₹ 10,000 and buys 2 kg wheat@ ₹ 40 per kg. Suppose, he gets the promotion next year and his monthly salary is now ₹50,000. He now purchases 2 kg wheat @ ₹ 80 per kg. Therefore, less priced or low-quality wheat is substituted with high-priced or high-quality wheat. Therefore, the consumption of inferior goods is reduced with an increase in income. The income elasticity of demand is less than 0 (or negative) in this case.  The demand curve slopes downward from left to right due to an inverse relationship between income and quantity demand. Fig 2:  Negative Income Elastic Demand ( EY <1) 3. Perfectly Inelastic Demand Perfectly inelastic demand refers to a situation when the change in income causes no change in the quantity demand. In simple words, when demand is not at all affected by the change in income of the consumer. For example, the demand for the very essential goods such as salt, medicines, etc. is perfectly inelastic because their demand remains constant irrespective of the fact whether income rises or falls. Therefore, the elasticity of demand is equal to zero (or EY=0). In Figure 3, the demand curve (DD) is a vertical straight line that is parallel to Y-axis showing that demand remains unaffected even if income changes. Perfectly Inelastic Demand Example Suppose the initial income of a consumer is ₹ 20 and his quantity demand is 6 units. When his income rises to ₹ 30, the quantity demanded is 6 units. It can be interpreted that the consumption of quantity remains constant i.e. 6 units irrespective of the fact that income is changing from ₹ 20 to ₹ 30. Hence, the income elasticity of demand will be zero.  Fig 3: Perfectly Inelastic Demand ( Ed=0)        Summary of Different Types/ Degrees of Income Elasticity Let’s try some questions Choose the correct answer 1. Demand is income elastic if a. an increase in income will not affect the quantity demanded. b. a small percentage increase in income will result in a large percentage increase in quantity demanded. c. the good in question has close substitutes. d. a large percentage increase in income will result in a small percentage increase in quantity demanded. 2. The income elasticity of demand is high for a. Shelter. b. Luxuries. c. Clothing. d. Food. 3. To say that sweet potatoes are inferior goods mean that the income elasticity a. is definitely greater than 1 b. is negative. c. is positive but could be greater than or less then (or equal to) 1. d. is definitely between 0 and 1. 4. An increase in Karl’s’ income decreases her demand for cassette tapes. For her, cassette tapes are a. A complement to any good   b. A normal good c. An inferior good d. A substitute good 5. Goods whose income elasticities are negative are called a. Superior goods.   b. Inferior goods. c. Normal goods. d. Complements. 6. Of the following, which one is most likely to have a negative income elasticity of demand? a. Shoes b. carpets c. Inter-city bus travel d. frozen vegetables 7. If consumer income declines, then the demand for a. normal goods will increase. b. inferior goods will increase. c. substitute goods will increase. d. complementary goods will increase. 8. Income elasticity of demand is equal to zero is for: a. Necessaries b. Luxuries c. Inferior goods d. Comforts 9. When quantity demand stays the same while income drops, what kind of product is it? a. Necessity b. Superior good c. Inferior goods d. Normal good   10. When income increases the money spent on necessaries of life may not increase in the same proportion, this means:    a. income elasticity of demand is zero.  b. income elasticity of demand is one.  c. income elasticity of demand is greater than one.  d. income elasticity of demand is less than one.   11. As income increases, the consumer will go in for superior goods, and consequently, the demand for inferior goods will fall. This means:    a. income elasticity of demand less than one.  b. negative income elasticity of demand.   c. zero income elasticity of demand.  d. unitary income elasticity of demand   Answer Key   1.b 2.b 3.b 4.c 5.b 11.c 6. a 7.b 8.a 9.a 10.d     Thanks & please Share with your friends   Comment if you have any questions.