Question

The income elasticity of demand for peanut butter is 0.1. From this, we know that peanut butter is a(n) __________ because __________.
a) normal good; elasticity is negative
b) inferior good; elasticity is negative
c) normal good; elasticity is positive
d) inferior good; elasticity is positive.

Answer 1

Answer:

Option B:

inferior good; elasticity is negative

Explanation:

The income elasticity of demand is a measure of the rate at which a particular commodity is demanded, even after there is a change in the real income of the consumers.

It is a known fact that for inferior goods, once the real income of the consumers increases there is a higher tendency for them to switch to other premium commodities. Such goods are said to have a negative elasticity.

The income elasticity of demand can be calculated with this formula

percentage change in quantity demanded / percentage change in income.

If this gives a value that is less than 1, it means that the percentage change in the quantity of goods demanded is actually less than the percentage change in the income level of the consumers. Hence, the good is an inferior good. This is because when the consumers are earning more, they buy less of the product.