Explain Cross Elasticity of Demand.




Cross Elasticity of Demand : Cross elasticity of demand occurs when a change in price of a commodity brings the change in demand of another commodity. The cross elasticity of demand for two goods X and Y, is the ratio of the percentage change of quantity purchased of X to the percentage change in price of Y.

            Cross elasticity of demand occurs for two goods which are interrelated, such as complementary goods, substitutable goods, etc. ... 



              Here,  ec = cross elasticity of demand
                        ΔQx = change in quantity of X
                        ΔPy = change in price of Y
                        Qx = initial quantity of X
                        Py = initial price of Y

            Example : For example we are taking two complementary goods. The price of the Y commodity is changing from $100 to $150. For this change, the quantity purchased of X is changing to 1000 units from 3000 units. Thus,

                        Py = $100                   Qx = 3000 units
                        ΔPy = $50                   ΔQx = 2000 units

The cross elasticity of demand, 


Thus, the cross elasticity is of demand is approximately 1.3

For substitutable goods, a rise in the price of Y will bring a rise in the demand of X and vice versa. The cross elasticity of complementary goods are positive and that of substitutable goods are negative.

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