Cross elasticity of demand
Cross elasticity of demand (CED)
The cross elasticity is a measure of the responsiveness of the demand for one product to changes in the price of another product.
Cross elasticity - formula
Cross elasticity is calculated and defined as:
Where Qdx = Quantity demanded of Good X
and Py = Price of Good Y
The XED is calculated by dividing the % change in the quantity demanded for one good or service by the % change in the price of another. It must be noted, however, that the two goods/services must be connected in some way (see the discussion of complements and substitutes below).
Cross price elasticity varies from 0 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 bought together are called complementary goods. Products which are in competition with each other are called substitute goods.
Examples of complements are steak and chips, rice and curry, cars and petrol, torches and batteries, gas and gas cookers. Complementary goods have negative cross price elasticities. Perfect complements will have a cross price elasticity of - infinity: negative 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, it may occur over time). Substitutes have positive cross price elasticities.
Example - substitutes
Cross price elasticity can change with time, therefore.
Again, here are some examples of calculations.
