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Johnny Clutch just got a raise from \$950 per week to \$1,050 per week. As a result, he increases the number of concerts he attends by five percent. His demand for concerts is:
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4. Elasticity
Income Elasticity of Demand
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For which of the following goods is the income elasticity of demand likely to be highest?
A
Luxury cars
B
Basic food staples
C
Generic toothpaste
D
Public transportation
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Step 1: Understand the concept of income elasticity of demand, which measures how the quantity demanded of a good responds to a change in consumer income. It is calculated as:
\[\text{Income Elasticity of Demand} = \frac{\% \text{ change in quantity demanded}}{\% \text{ change in income}}\]
Step 2: Recognize that goods can be classified based on their income elasticity:
- Normal goods have positive income elasticity (demand increases as income increases).
- Inferior goods have negative income elasticity (demand decreases as income increases).
- Luxury goods have income elasticity greater than 1, meaning demand increases more than proportionally as income rises.
Step 3: Analyze each option in terms of how demand changes with income:
- Basic food staples are necessities, so their income elasticity is positive but typically less than 1 (inelastic).
- Generic toothpaste is also a necessity with low income elasticity.
- Public transportation can be an inferior good or have low positive elasticity depending on context.
- Luxury cars are considered luxury goods, so their income elasticity is expected to be greater than 1.
Step 4: Conclude that the good with the highest income elasticity of demand is the one whose demand increases most rapidly as income rises, which is typically luxury cars.
Step 5: Therefore, among the given options, luxury cars have the highest income elasticity of demand because they are luxury goods whose consumption is highly sensitive to changes in income.
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