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Income Elasticity• The income elasticity of demand measures the response of Qd to a change in consumer income. Income elasticity Percent change in Qd = of demand Percent change in income• It refers to the different quantities of commodities or services which consumers will buy at different levels of income, other things remaining the same.• It expresses the relationship between income and quantity demanded.
Computing Income Elasticity P e rc e n ta g e c h a n g e in q u a n tity d e m a n d e dIn c o m e e la s tic ity o f d e m a n d = P e rc e n ta g e c h a n g e in in c o m e Goods consumers regard as necessities tend to be income inelastic. Examples include food, fuel, clothing, utilities, and medical services. Goods consumers regard as luxuries tend to be income elastic. Examples include sports cars, furs, and expensive foods.
Types of Income elasticity• Zero income elasticity• Negative income elasticity• Unitary income elasticity• Income elasticity greater than one / High elasticity• Income elasticity less than one / Low elasticity
Zero Income Elasticity• This occurs when a change in income has NO effect on the demand for goods. P DElasticity: 0 E1 E2 E raise Q by 10% Q1 Q changes by 0% 4
NEGATIVE INCOME ELASTICITY• An increase in income will result in a decrease in demand. Inferior goods have a negative income elasticity of demand. E E2 E1 D E rises QElasticity: < 0 by 10% Q1 Q2 Q falls less than 10% 5
Unitary income elasticity• Increase in income and quantity demanded are same. E E rises QElasticity: by 10% 1 Q rises by 10%
Income elasticity > one.• It is also called as High Elasticity.• Consumer purchases goods in greater proportion compared to increase in income.• E= >1
Income elasticity < one.• It is also called as Low Elasticity.• Consumer purchases goods in lesser proportion compared to increase in income.
Income sensitivity of demand• Measures the effects of income changes on demand.Necessaries will have a sensitivity co- efficient less than 1, while those of luxuries will be greater than one.• Eis = % change in expenditure % change in income
Cross elasticity of demand• It is the ratio of proportionate change in quantity demanded of A to a given proportionate change in the price of related commodity B.• Ec = % change in demand for good A % change in price good B
Types of Cross elasticity• Positive elasticity:For substitutes there exists a positive elasticity between two goods.• Negative elasticity:For complementary goods there exists a negative elasticity between two goods.• Zero elasticity:It exists for goods which are not related to one another.
Nature of the demand curve for cross elastic products• For substitute goods which has positive elasticity, the demand curve is upward sloping.• For complementary goods which has negative elasticity, the demand curve is downward sloping.• For unrelated goods, demand curve is a vertical straight line.