1. What is likely to happen to the demand for these products when incomes rise by 15%?

2. Theme 1: Introduction to markets and market failure
In this theme, students will consider how markets work, looking at how supply and demand interact to allocate resources in local, national and international markets. They will learn how to apply supply and demand analysis to real-world situations and be able to offer explanations of consumer behaviour. This will involve looking at both how consumers act in a rational way to maximise utility and how
firms maximise profit, but also why consumers may not behave rationally.
1.2 How markets work
Subject content
1.2.3 Price, income and cross elasticities of demand
What students need to learn:
a) Understanding of price, income and cross elasticities of
demand
b) Use formulae to calculate price, income and cross
elasticities of demand
c) Interpret numerical values of:
o price elasticity of demand: unitary elastic, perfectly and relatively elastic, and perfectly and relatively inelastic o income elasticity of demand: inferior, normal and luxury goods; relatively elastic and relatively inelastic o cross elasticity of demand: substitutes, complementary and unrelated goods
d) The factors influencing elasticities of demand
e) The significance of elasticities of demand to firms and government in terms of:
o the imposition of indirect taxes and subsidies
o changes in real income
o changes in the prices of substitute and
complementary goods
f) The relationship between price elasticity of demand and
total revenue (including calculation)

3. Income Elasticity
YED measures the responsiveness of quantity demanded to a change in income
it is the mathematical relationship between ∆Y & ∆Qd
YED = %ΔQd % ΔY
If a change in income significantly alters the Qd, then YED is said to be “relatively elastic.”
If a change in income does not have much affect on Qd, then YED is said to be “relatively inelastic.”

4. Income Elasticity YED Tells us about the type of good:
for all ‘normal’ goods, YED will be positive (as we earn more, we buy more)
for ‘inferior’ goods, YED will be negative (as we earn more, we buy less) Y
Normal good
Inferior good Q

5. Income Inelastic DemandY
Income Inelastic Demand
a large income change results in only a small change in Qd
0<YED <1
found on ‘necessities’ (we buy the same amount regardless of income changes) Y1 Y0 D Q0 Q1 Q

6. Income Elastic Demand Income Elastic DemandY
Income Elastic Demand
a small income change results in a large change in Qd
1 < YED
found on ‘optional’ products (a little boost in income suddenly adds these items to our basket) D Y1 Y0 Q0 Q1 Q