A 10 percent decrease in income decreases the quantity demanded of CDs by 3 percent. The income elasticity of demand for CDs is Select one: ?
a. -0.3 ?
b. 0.3 ?
c. 3.3 ?
d. 10
The correct answer and explanation is:
The correct answer is a. -0.3.
Explanation:
Income elasticity of demand (YED) measures how the quantity demanded of a good responds to a change in consumer income. It is calculated using the formula: YED=% change in quantity demanded% change in incomeYED = \frac{\%\text{ change in quantity demanded}}{\%\text{ change in income}}
Here, we are given that a 10% decrease in income leads to a 3% decrease in the quantity demanded of CDs.
- The percentage change in quantity demanded is -3% (a decrease).
- The percentage change in income is -10% (a decrease).
Substituting these values into the formula: YED=−3%−10%=0.3YED = \frac{-3\%}{-10\%} = 0.3
However, because a decrease in income leads to a decrease in demand for a normal good, the income elasticity of demand is negative. Therefore, the correct answer is -0.3.
Further Explanation:
Income elasticity of demand can be classified as follows:
- Positive YED: If the elasticity is positive, the good is a normal good (demand increases as income increases).
- Negative YED: If the elasticity is negative, the good is an inferior good (demand decreases as income increases).
In this case, since the YED is negative, CDs are considered a normal good (in most cases, demand for such goods falls as income decreases).