INCOME ELASTICITY OF DEMAND

In this formula Q1 is the initial consumer expenditure on any commodity 'X' (which represents the demand for the product 'X') and Q2 is the new expenditure on the same commodity after a change in income. Y1 denotes initial income and Y2 stands for changed or new income.

Example : A consumer spends Rs. 50 per month on sugar when his income is Rs. 1400 per month. When his income increases to Rs. 1700 per month he spends Rs. 74 on sugar. What will be the income elasticity of demand for sugar in this case ?

Solution : According to the above formula

• Income is major determinant of demand

• Demand is depended on the income.

• Income demand function {mathematical expression}

D = f (y).

Types of income elasticity of demand.

1. Unitary income elasticity (D1)

It is a situation the percentage of change in the demand is equal to percentage of change in income. If you observe demand curve D1, the demand for goods is at D1 on x-axis when the income of people is at I-2 on the Y axis. Here the proportionate change in the income of the people is equal to the change in the demand for goods and services.

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eg: raise in income = raise in demand

(Costly goods or luxury goods)

2. Income elasticity greater than unity (D2)

It is a situation the percentage of change in demand is greater than the percentage change in income. If you observe demand curve D2, the demand for goods is at D2 on x-axis when the income of people is at I-1 on the Y axis, as the demand for the goods increased from D1 to D2 as the income of people decreased from I-2 to I-1 . Here the proportionate change in the income of the people is less than the change in the demand for goods and services.

or

Small change in the income of the people effect to more change in demand for goods.

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eg: personal care products like soaps cosmetics

3. Income elasticity less than the unity (D3)

It is a situation the percentage of change in demand is less than the percentage of change in income. If you observe demand curve D3, the demand for goods is at D3 on x-axis when the income of people is at I-3 on the Y axis, so the demand for the goods decreased from D1 to D3 as the income of people decreased from I-2 to I-3 . Here the proportionate change in the income of the people is grater than the change in the demand for goods and services.

Or

More change in the income of people, but small change in the demand for goods.

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eg: daily usage food items like vegetables, etc

4. Zero income elasticity (D4)

it a situation where the income of people changes in any proportion but carries no effect on demand. If you observe demand curve D4, the demand for goods is at D4 on x-axis when the income of people is varying from I-1, I-2, I-3 to I-4 on the Y axis, so the demand for the goods is constant or no change at D4 when the income of people varying from I-1 to I-4 . Here the change in the income of the people is brings no change in the demand for goods and services.

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or

Income of the people changes but demand for goods doesn’t change.

eg: demand for goods like medicines

5. Negative income elasticity (D5)

It is a situation where Rise in income causes decrease in demand. If you observe demand curve D5 leaning left side which means negative effect on demand. The demand for goods is at D5 on x-axis when the income of people is at I-5 on the Y axis, so the demand for the goods decreased from D4 to D5, as the income of people increased from I-4 to I-5 . Therefore increase in the income of the people causes fall in the demand for goods and services.

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eg: cheap food items, past example like kerosene stoves and other inferior goods and services.

The income elasticity for different products differs widely. Income-elasticity of demand tends to be very high in case of luxury items like diamonds, gold, jewelry, precious stones, paintings, cars etc. As against this, income elasticity of demand is very low in case of commodities like salt, vanaspati (dalda) , matches, kerosene, etc.