[Joseph_E._Stiglitz,_Carl_E._Walsh]_Economics(Bookos.org) (1)

The consumption of some goods actually decreases as income increases and
increases as income decreases; these are called inferior goods. In sharp contrast,
the consumption of normal goods increases with income. In other words, goods for
which the income elasticity is negative are, by definition, inferior, while all other goods
are called normal. For instance, if Fran, who has been riding the bus to work, gets a
large raise, she may find that she can afford a car. After buying the car, she will spend
less on bus fare. Thus, in this particular sense, bus rides represent an inferior good.
Figure 5.4 shows how typical families at different income levels spend their income.
We see that on average, the poorest 20 percent of the population spend almost 80 percent
of their before-tax income on housing. Yet the richest 20 percent spend only a fifth
of their income on housing. Similarly, the poorest 20 percent spend 38 percent of their
before-tax income on food, while the richest 20 percent spend less than a tenth. The
total spending of the poorest 20 percent on food and housing adds up to more than 100
percent of their income; this is possible only because of government subsidies.
Information like that contained in Figure 5.4 is of great practical importance.
For example, it helps determine how a tax will affect different groups. Anybody who
purchases food will be hurt by a tax on it. But if the poor spend a larger fraction of
their income on food, as the figure suggests, they will bear a disproportionately large
share of the tax.
Wrap-Up
INCOME ELASTICITY OF DEMAND
The income elasticity of demand for a good is the percentage change in consumption
that would result from a 1 percent increase in income.
When income elasticity of demand is greater than 1, a 1 percent increase in an
individual’s income results in a more than 1 percent increase in expenditures on
the good.
When income elasticity of demand is less than 1, a 1 percent increase in an
individual’s income results in a less than 1 percent increase in expenditures on
the good.
Normal goods have a positive income elasticity of demand.
Inferior goods have a negative income elasticity of demand.
Case in Point
THE FATE OF THE BTU TAX
Some of the differences in choices along a budget constraint reflect nothing more than
differences in tastes—Fran likes CDs more than Gary does. But some differences
in choices are systematic, and many of these reflect differences in circumstances.
Eleanor lives in New England and spends more on oil to heat her apartment than
does Jim, who lives in Florida; Amy, who lives in Montana, 200 miles from the nearest
THE BASIC PROBLEM OF CONSUMER CHOICE ∂ 107