Question

The income elasticity of demand for haircuts is 1.5, and the income elasticity of demand for food is 0.14. You take a weekend job, and the income you have to spend on food and haircuts doubles. If the prices of food and haircuts remain the same, will you double your expenditure on haircuts and double your expenditure on food? Explain why or why not. (33 points)

Answer 1

Income elasticity is defined by the change in quantity demanded for a particular good to a change in the real income of the consumers. Therefore, we can specify the goods either into luxury or a necessity. The formula for Income elasticity is:

  

Here, the income elasticity of haircut = 1.5, which means that if the income rises by 10%, then the change in demand goes up by 15%. When the income elasticity of income is greater than 1, we can say that it has high responsiveness to change in its price.

Here, the income elasticity of Food = 0.14, which means that demand for food is inelastic. No matter whatever be the income and price, the consumer will still demand for food. Hence, it is a necessity. It has a low responsivenss to change in its price.

So, if the income to spend on haircuts and food doubles, with the price being the same, then, the cosumer will spend more than double on haircut since it is greater than 1 and responsiveness is high. On the other hand the consumer will spend less than double on food since it has an income elasticity of 0.14 which is less than 1. It has a low responsiveness to a change in its price.