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(Solved): 4) Income Elasticity of Demand: a) Calculate income elasticity of demand and interpret the sign ...
4) Income Elasticity of Demand: a) Calculate income elasticity of demand and interpret the sign of the elasticity. b) Discuss the relationship between income elasticity and the nature of goods (normal, inferior, luxury). c) Analyze the impact of income elasticity on consumer behavior and busines decision-making. 5) Elasticity and Market Outcomes: a) Compare and contrast elastic and inelastic demand and supply. b) Evaluate the implications of elasticities for pricing strategies, revenue maximization, and market equilibrium. c) Examine the role of elasticity in understanding market dynamics and the responsiveness of quantity demanded and supplied to changes in price and income.
Expert Answer
4. A) Income elasticity of demand measures the responsiveness of the quantity demanded of a good or service to changes in income. It is calculated as the percentage change in quantity demanded divided by the percentage change in income. The formula for income elasticity of demand is:Income Elasticity of Demand = (Percentage Change in Quantity Demanded) / (Percentage Change in Income)To interpret the sign of elasticity, we look at whether the quantity demanded of a good or service increases or decreases in response to changes in income.a) If the income elasticity of demand is positive (greater than 0), it indicates that the good is a normal good. This means that as income increases, the quantity demanded of the good also increases. In other words, the good is income-elastic, and it is considered a luxury or a superior good. Examples of such goods include luxury cars, high-end electronics, and high-quality vacations.b) If the income elasticity of demand is negative (less than 0), it indicates that the good is inferior. This means that as income increases, the quantity demanded of the good decreases. In other words, income is inelastic. Inferior goods are typically lower-quality or less desirable alternatives to superior goods, and people tend to purchase more of them when their income is lower. Examples of inferior goods include low-cost generic brands, public transportation, and second-hand products.c) If the income elasticity of demand is zero (equal to 0), it indicates that the good is an income-inelastic or income-independent good. This means that changes in income have no effect on the quantity demanded for the good. These goods are typically necessities or essential items that people need regardless of their income level. Examples include basic food items, medications, and utilities.