From Instant Noodles to Ferraris: Understanding Income Elasticity of Demand (YED)

From Instant Noodles to Ferraris: Understanding Income Elasticity of Demand (YED)

Imagine the following situation: one moment you’re a broke student living off instant noodles and tins of tuna, and the next, you’ve landed a dream job and you’re eyeing that exotic Bali holiday or shiny new Tesla. Welcome to the world of Income Elasticity of Demand, or as the modern economists say, YED.

What is YED, and Why Should You Care?

YED helps us measure how demand changes when people’s real incomes change (that’s income adjusted for inflation). It answers questions like: What items do people stop buying when they get richer? What do they buy more of? And which products power through recessions untouched?

If you’re aiming for those juicy IB top grades (obviously grades 6 and 7), you’ll want to understand this inside out - especially the HL evaluation stuff coming up.

The Formula (Don’t Panic)

YED = % change in quantity demanded ÷ % change in income

It's not hard maths - but focus on what matters and what it means.

Three Types of Goods You Need to Know and associate with YED

Let’s break this down with some real-life examples.

Necessities (YED between 0 and 1)

These are the items you buy no matter what. You could win the lottery or go flat broke - you’re still buying toothpaste.

• Examples: milk, bread, water, electricity, gas

• Real-life fact: Whether you're in Monaco or Malawi, you’re switching the lights on.

Luxuries (YED > 1)

As income goes up, demand skyrockets. Think designer bags, Michelin-star dinners, or flying first class instead of economy (unless your school trip budget says otherwise).

• Examples: Ferraris, exotic holidays, high-end electronics

• Real-life vibe: You get a pay rise, and suddenly you “need” a Dyson hair dryer.

Inferior Goods (YED < 0)

These are the ones people ditch when they have more money. They're not bad, just less appealing once you’ve got access to other options.

• Examples: instant noodles, second-hand clothes, public transport

• Real-life vibe: First year at university? Bus and Heinz beans. Land your first job? Uber and sushi.

BUT! Inferior ≠ low quality. A Mazda isn’t a bad car - but in income terms, it’s inferior to a BMW. Context is everything.

Engel Curves - Not Just a Fancy Name

Engel curves show how demand changes with income:

• Normal goods = upward slope

• Inferior goods = downward slope

Draw one if you're aiming for a 7. IB Examiners LOVE diagrams.

Trick Question Time: YED ≠ PED

Loads of students mix these up.

Let’s be clear:

• YED = response to changes in income

• PED = response to changes in price

Saying “demand is income elastic because the price fell” is like saying you’re hungry because your shoes are tight. They are not connected at all.

The Global Confusion: What’s Inferior in One Place...

A second-hand laptop might be inferior in Sweden but a prized possession in rural India. Classifying goods isn’t universal - it depends on the economy and the buyer’s perspective.

Even economy-class travel: Is it inferior? For some, it’s a stretch; for others, it’s an upgrade from walking.

So… Why Does YED Actually Matter?

Here’s where YED delivers (HL students, lean in).

For Firms:

• Market targeting: If you know your product is a luxury, pitch it to high-income consumers. Budget brands? Target recession-proof shoppers.

• Risk diversification: During downturns, firms shift to inferior goods - supermarkets stock more budget lines.

• Product planning: YED can help firms decide what to launch next.

For Governments:

• Tax smartly: Luxury goods = great candidates for taxation (people can afford them).

• Design better welfare: Knowing which goods are inferior helps structure subsidies or vouchers.

• Economic planning: Makes it possible to forecast demand and manage booms or recessions.

Sector-Wide YED Vibes

• Primary (agriculture, oil): Low YED. People still need food and fuel even in a crisis.

• Secondary (manufacturing): Medium YED. People might delay buying that new sofa.

• Tertiary (services): High YED. People skip the spa and Netflix subscription when money is tight.

Final Word from Your Favourite Economics Trainer

If you take anything from this post, let it be this: Not all goods are created equal - and how people buy them says a lot about the world around us.

From public transport to Porsches, YED gives us insight into the economy’s beating heart. If that’s not a reason to care about elasticity, I don’t know what is.