In economics and especially in consumer decision theory, the income-demand curve is simply a curve on a graph where the slopes of the curves are the points on which the quantity of two goods is plotted on both axes; the curve itself is the point of highest points showing the greatest number of buyers chosen at each level of income. We can call this the income curve or we could say that the income curve depicts the ‘effective demand’ for goods and services. The effective demand refers to the set of people who would buy the goods and services that are being sold by the seller of those goods and services. It also takes into account the potential buyers who would be willing to buy the goods and services that are being sold by the seller of those goods and services.
The price elasticity of demand is the relation between the income of a society and the changes in the total expenditure necessary to maintain its level of income over time. The higher the income of a society, the more its total expenditure tends to adjust to the changes in income. But if expenditure on goods and services falls below the incomes of individuals, it is not difficult for them to maintain their standard of living. But when expenditure on goods and services rises as a proportion of income, it leads to a situation where the incomes of individuals become lower and living standards fall.
This situation can be explained by the difference in prices between inferior and superior goods. It is the gap between the prices of inferior and superior goods that determines the extent of the income effect of demand. And it is this price elasticity of demand that is most important to consider in economics.
The price effect of demand therefore leads to the income effect of demand. The income effect of demand is therefore directly proportional to the elasticity of demand. The higher the elasticity of demand, the greater the income effect of demand, while the lower the elasticity of demand, the smaller the income effect of demand. It is essentially the degree of elasticity of demand that is important because different goods and services are demanded depending on their relative strengths and weaknesses (or ‘demand elasticity’) and their relative importance for a society.
One example of the income effect of demand is illustrated by the difference in prices between two similar items. When demand for one of the items increases, its price also rises. So, on the assumption that demand for the good is proportional to the income of the society, the rise in the price of the good relative to demand will automatically reduce the income of the society as a whole. However, if the price of the good increases only marginally, then the income effect of demand is offset by the rising popularity of the good. In other words, increased popularity of the good offsets the reduced income effect of demand.
Price effects thus determine the income effect of demand. But this does not mean that demand is primarily based on production considerations alone. If the production of goods is rising so fast that the gap between supply and demand becomes significant, then income effect of demand is reduced.
Moreover, demand is also affected by inflation. The goods become costly, so they are purchased less frequently than before, or are ‘sold out’ in the open market. Thus, the income effect of demand is also reduced as prices rise. While high inflation may make commodities very expensive, the existence of a markup on commodities also serves to reduce income effect of demand.
But these are just some of the income effects of income. There is more to it than mentioned above. Let us explore the various categories of income and how it affects the overall efficiency of the economy. Let us checkout the incomes that are classified as top 10 in today’s world!