Question

Question 3

Compare the impact of a recession that reduces consumer income by 5 percent on the consumption of durable goods and house rentals. Suppose that the income elasticity of demand for durable goods is 1.5 and the income elasticity of demand for house rentals is 0.3. Based on your response, make a policy argument to support through government funding either businesses or house rentals.

Answer 1

Income elasticity of demand = Percentage Change in demand due to unit percentage change in income

We can see that the demand for durable goods is more elastic than the house rentals which means that the effect will be seen more in durable goods demand due to the reduction of consumer income. We can prove it mathematically,

Income elasticity of demand = %Change in demand / %change in income

%change in demand of durable goods = 1.5* 5% = 7.5%

% change in demand of house rentals = 0.3*5% = 1.5%

So due to a reduction in income the demand for durable goods will decline by around 7.5% in comparison to the decline of house rentals which is 1.5%

Hence the government funding should be done to business rather than house rentals. With this funding, the business will grow and hence the income of the people will improve that will increse the demand which will help in reviving of economy.