Income Elasticity of Demand (YED)

A-level Economics

What it is. How it is calculated. How it affects demand and supply diagrams.

Definition:

YED – “measures how sensitive consumer demand is when there is a change in income.”

It shows us what happens to our demand when our incomes go up or down.

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In general, if our incomes go up, then our consumption of many goods or services will also go up. For example, our expenditure on cars. As our incomes go up, we tend to spend more and more on cars because they are desirable. These are called normal goods.

On the other hand, there are goods that become less and less desirable as we become richer. For example, store-brand foods in the supermarket. If you have just received an increase in your salary from £30,000 per year to £100,000 per year, then you are less likely going to buy store branded products e.g. Sainsbury’s baked beans. You are also less likely to shop in a supermarket such as Aldi, Lidl or Farmfoods. These goods are called inferior goods.

How do you calculate YED?

YED calculations tell us whether goods/services are normal or inferior.

Here’s how it is calculated:

% change in Qty Demanded / % change in Income

What do the results of the calculation mean?

YED = Positive [Means that the good/service is normal]

YED = Negative [Means that the good/service is inferior]

YED above 1 [Means the good/service is elastic]

YED between 0 and 1 [Means the good/service is inelastic]

Example 1: The YED calculation for holidays is +3.5. First of all, you will notice that the YED is positive, which means that the good is normal. Secondly, it’s above 1, so it is elastic. So it is normal elastic. Normal elastic goods are also referred to as normal luxuries. It means they are very desirable, and as you earn more income you are very likely to start spending your money on these goods. Examples are branded clothing, expensive cars and so on.

Example 2: YED for bread is +0.4. You will notice that it is positive, so it is a normal good. This time it is between 0 and 1, so inelastic. Normal inelastic goods are also known as normal necessities. Your income goes up, so you spend more on it, but you are not exactly going to buy a bakery. You will probably increase your expenditure on bread because you buy higher quality loaves etc.

Example 3: YED for Good A is -0.6. YED for Good B is -5.5. These two good are both inferior goods because they have a negative YED. However, Good A is inelastic and Good B is elastic. This means that Good B is a stronger inferior good than Good A. It means that when your income goes up, you will more strongly reject Good B and reduce your consumption by a lot.