Question

Given the following income elasticities of demand:

Product Income elasticity
movies +3.4
Dental service +1.0
Clothing +0.5

The values indicate that movies and dental services are normal goods, but clothing is an inferior good.
(A) a 1 percent increase in income will increase the quantity of movies demanded by 3.4 percent.
(B) a 5 percent increase in the price of dental services will decrease the demand for dental services by 5 percent.
(C) a 10 percent increase in income will increase the demand for clothing by 20 percent.

Answer 1

Answer:

(A) TRUE

(B) FALSE

(C) FALSE

Explanation:

All of these goods are normal goods, since their income elasticity is positive. Inferior goods have negative income elasticity.

(A) From the definition of elasticity

$\eta_{q,I}=\frac{\frac{\Delta Q}{Q}}{\frac{\Delta I}{I}}=\frac{\%\,Change\,Quantity\,Demanded}{\%,Change\,Income}$

since movies have a 3.4 elasticity it's interpretation is for 1% increase in income then the quantity demanded will increase by 3.4%

(B) The problem refers to changes in price elasticity, the data in the problem doesn't give us any information about this elasticity.

(C) A 10% increase in income will result in a 5% increase in demand for clothing. We can see this by using the above equation

$\frac{\Delta Q}{Q}}=0.5 \times \frac{\Delta I}{I}=0.5 \times 0.10=0.05$