Cross elasticity of demand (XED)
Cross elasticity of demand
The cross elasticity is a measure of the sensitivity of the demand for one product to changes in the price of another.
Formula:
Cross price elasticity varies from zero to infinity. As before, the now familiar descriptions are used:
| Value | Description |
|---|---|
| 0 | Perfectly inelastic |
| Under 1 | Inelastic |
| 1 | Unitary |
| Over 1 | Elastic |
| Infinity | Perfectly elastic |
Significance of XED sign
The sign is as important as the numerical value, however.
Some products tend to be bought together, others are purchased in competition to each other.
- Products which are in joint demand are called complementary goods.
- Products which are in competitive demand because customers see them as interchangeable, are called substitute goods.
Examples of complements are strawberries and cream, fish and chips, cars and petrol, printers and printer ink. Complementary goods have negative cross price elasticities. Perfect complements will have a cross price elasticity of infinity.
Example - complements
Examples of substitutes are beef and lamb, gas and heating oil, petrol and diesel fuel. (Note that the substitution may not be possible at once). Substitutes have positive cross price elasticities.
Example - substitutes
Cross price elasticity can change with time.
