Cross price elasticity of demand is referred to as how responsive or elastic the demand for one product is with the response to change in price of another product. In other words, cross-price elasticity of demand is tracking the relationship between price and demand.
By calculating gross price elasticity, it can be determined if the products are substitutes, complements or totally not related to each other.
In such a situation, if the products are substitutes of each other then positive cross elasticity of demand is observed while if the products are complements of each other then negative cross elasticity of demand.
Industries and business owners use this information for determining the price for certain products.
The cross-price elasticity of demand formula is expressed as follows
Cross Price Elasticity of Demand (XED) = (∆QX/QX) ÷ (∆PY/PY)
QX = Quantity of product X
PY = Price of the product
∆ = Change in quantity demanded / price
From this formula, it can be deduced that
If XED > 0 then the products are substitutes of each other.
XED < 0 then the products are complements of each other
XED = 0, products are not related to each other.
This concludes the topic on cross price elasticity of demand, which is an important concept in understanding the change in demand of a good related to change in price of another product. To read more of such interesting concepts on Economics for Class 12, stay tuned to CoolGyan’S.