1.2.5 income elasticity of demand

• income elasticity of demand (YED) measures how the quantity demand of a good changes in response to changes in income

  YED value can be positive or negative, the value is important in determining the type of good
• a positive YED means that the good is a normal good (necessities/luxuries) - demand increases along with income

  a negative YED means that the good is an inferior good - demand decreases when income icreases
• positive YED: normal goods

  examples of normal goods include both necessities and luxuries

  cars, vacations, designer clothing

  as people's incomes rises, they are more likely to purchase these goods

  When income increases, demand for normal luxury goods increases at a greater rate
• negative YED: inferior goods

  examples of inferior goods include cheap fast food, used clothing and low-quality products

  as people's incomes rise, they switch to purchasing higher-quality goods

  demand for inferior goods decreases
• YED formula


  income elasticity of demand = % change of quantity demanded / % change in income
• numerical value: >1

  type of good: 'normal' luxury

  explanation:

  • income rises = demand rises significantly
  • demand falls when income falls
  • demand is responsive to a change in income (income elastic)

  examples: cars, smart watches, holidays. jewellery, branded goods
• numerical value: 0>1

  type of good: 'normal' necessity

  explanation:

  • demand hardly changes when incomes rise (income inelastic)

  examples: high street clothing, staple foods like bread, milk, fuel
• numerical value: <0

  type of good: inferior

  explanation:

  • demand rises when income falls (negative income elasticity)
  • demand falls when income rises

  examples: public transport, domestic holidays, canned foods, own label goods
• factors influencing YED


  influenced by factors in the economy

  • recession
  • economic growth

  influences by the nature of the good

  • is it a luxury or necessity?

  (both are normal goods)

  • is it inferior or normal?
• significance of YED to business: production planning


  YED helps business asses impact of changes in income on demand for their products

  • businesses can use YED to forecast demand and adjust production levels
  • understanding YED can help businesses plan production capacity avoid overproduction or underproduction
• significance of YED to business: production planning...


  • business cycle - economy goes through different stages of recession to recovery and growth

  therefore incomes fluctuate

  • during a recession, inferior goods benefit from higher demand, but demand falls when incomes rise

  as a result businesses might have different products in their product portfolio