Income and Price Elasticity of Demand

AS and A Level Economics

A guide for income elasticity of demand

Income elasticity of demand measures the relationship between a change in quantity demanded and a change in income

The formula

IED = % Change in Quantity Demanded

% Change in Income Levels

The numbers

If IED is LESS than 1 it is income INELASTIC.

If IED is GREATER than 1 it is income ELASTIC.

Higher the IED the more responsive demand is to a change in income.

Lower the IED the less responsive demand is to a change in income.

Plus or Minus Significance

NEGATIVE - = INFERIOR GOOD

POSITIVE + = NORMAL GOOD

Inferior Good

Inferior goods are when demand for a product falls, income levels rise.

Normal Good

Normal goods are when demand for a product rises, income levels rise. Necessities and luxuries are normal goods.

Examples of necessity would be toilet roll.

Examples of luxury goods are expensive cars and designer clothes.

Between 0 and +1 is a normal necessity.

Greater than +1 is a superior/luxury good.

Example

In this current climate people income decreased and started to buy more inferior goods. E.g. Before the recession people would have bought Andrex toilet roll, however in the recession they would have bought supermarkets own brand toilet roll which would be a lot cheaper.

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Peer Reviews

Here's what a star student thought of this essay

groat

29th of Feb 2012

Quality of writing

The essay has a clear structure, addressing each elasticity separately. If I was doing this essay, I would've had an overall conclusion talking about the general significance of elasticities to a firm. As mentioned earlier, I would've discussed that they are estimates and other limitations. Spelling, punctuation and grammar are fine, but their phrasing is poor in places. As mentioned above, getting something the wrong way round can make no sense economically, losing marks for poor understanding.

Level of analysis

The analysis in this essay is sound. I liked how they used the buzzword of "responsiveness" when defining elasticities, as this is a concept the examiners are looking for. It was nice to see some numerical analysis of the values of income elasticity of demand, showing the ranges of values which are defined as inelastic and elastic. This is often neglected in essays about elasticity, and is a good way to gain marks as it shows an understanding of the formula beyond the simple definition. I have a query with their definition of inferior goods - it is illogical to say "when demand for a product falls, income levels rise" as demand for the product has no affect on income. You must be clear when explaining concepts in economics, as getting something so simple the wrong way round makes no sense. I would simply say "when incomes rise, demand for the product falls". What is strong about this essay is the awareness of how the elasticity values are useful to firms, as this shows an understanding of their significance in economics. When talking about usefulness, I always mention that the values are estimates and the data is historical, so there is limited use in predicting the future responsiveness. It was nice to see a variety of diagrams displaying price elasticity of supply, but it would've been stronger if they had done the same for the other elasticities. It seems price elasticity of demand has been neglected here!

Response to question

This essay gives a good overview of elasticities, including the numerical formulae and various definitions. Although there are diagrams, I would've liked to have seen a diagram including two demand (or supply) curves with varying elasticities, then showing how a change in price causes a difference in the change of quantity. This would've shown higher level analysis, as it enables you to comment how your diagram explains why elasticity values are useful.

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