Income Elasticity of Demand (YED) (DP IB Economics)
Revision Note
Written by: Steve Vorster
Reviewed by: Jenna Quinn
Definition & Calculation of YED
Changes in income result in changes to the demand for goods/services
Economists are interested in how much the quantity demanded will change for different products
Income elasticity of demand (YED) reveals how responsive the change in quantity demanded is to a change in income
Calculation of YED
YED can be calculated using the following formula
Worked Example
A consumer's income rises from SG$ 100 to SG$ 125 a week. They originally consumed 12 bubble teas but this increased to 15 bubble teas a week. Calculate the YED of the bubble teas
[2 marks]
Answers:
Step 1: Calculate the % change in QD
Step 2: Calculate the % change in Y
Step 3: Insert the above values in the YED formula
(Two marks for the correct answer or 1 mark for any correct working)
Interpreting YED Values
The YED value can be positive or negative and the value is important in determining the type of good
A good with a positive YED value is considered to be a normal good
Normal goods can be classified as necessities or luxuries
A good with a negative YED value is considered to be an inferior good
Engle Curves
Engle curves are a model used to illustrate the relationship between income and the quantity demanded (QD)
Income is presented on the Y-axis and quantity demanded on the X-axis
The Value of YED Determines the type of good and Response to Changes in Income
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0→1 | Necessity |
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YED > 1 | Luxury |
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YED < 0 | Inferior Good |
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Examiner Tips and Tricks
Remember this distinction! With PED values the negative sign is always ignored. However for YED, the sign is integral to understanding if the good is a normal (+) or inferior (-) good.
Factors that Influence YED
YED is influenced by any factors in an economy which change the wages of workers
During a recession wages usually fall and demand for inferior goods rises while demand for luxury goods falls
During a period of economic growth and rising wages, demand for luxury goods increases while demand for inferior goods decreases
Other influences on income include minimum wage legislation, taxation, increased international trade
The Importance of YED
YED is crucial for firms as it helps them understand consumer behaviour, analyse markets, plan strategies, make informed investment decisions, and adapt to changes in the sectoral structure of the economy
By assessing the income elasticity of demand, firms can effectively navigate evolving market dynamics and position themselves for sustainable growth
An Explanation of how Firms can use YED Effectively
Factor | Explanation |
Understand consumer behaviour |
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Adapt to changes in the sectoral structure of the economy |
Example
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