Question

Suppose the income elasticity for transportation is 1.8. Which of the following is an INCORRECT statement? Select one:

a. Whenever the income increases by 1 percent, the expenditure on transportation increases by 1.8 percent.
b. Expenditures on transportation will fall less rapidly than income falls.
c. Expenditures on transportation grow more rapidly than income grows.
d. Transportation is a normal good.

Answer 1

The incorrect statement is that expenditures on transportation fall less rapidly than income falls. Transportation, with an income elasticity of 1.8, is a luxury good and its expenditure increases more than proportionally with income, and would decrease more significantly than income in the case of a fall.

Step-by-step explanation:

'Expenditures on transportation will fall less rapidly than income falls', given that the income elasticity for transportation is 1.8.

Income elasticity of demand measures how sensitive the demand for a good is to an income change. Normal goods have positive income elasticity, meaning demand increases as income grows. When income elasticity is higher than 1, as with transportation in this case, the good is considered a luxury; thus, its consumption increases more than proportionally as income rises. Conversely, expenditures on such goods are expected to decrease more significantly than income does when income falls.

Therefore, the correct adaptations to income changes would be to expect expenditures on transportation to grow more rapidly than income increases and fall more dramatically than income decreases.