Cross-Price Elasticity of Demand
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What Is Cross-Price Elasticity of Demand?
Cross-price elasticity of demand measures how the quantity demanded of one good responds to a change in the price of a different good. It is the percentage change in the quantity demanded of the first good divided by the percentage change in the price of the second. The sign reveals the relationship between the two goods. A positive cross-price elasticity indicates the goods are substitutes: when one becomes more expensive, buyers shift to the other, raising its quantity demanded. A negative cross-price elasticity indicates complements: when one becomes more expensive, demand for the good used alongside it falls. A value near zero indicates the goods are largely unrelated.
Why It Matters
Cross-price elasticity turns the idea of related goods into a measurable number, which businesses and regulators use every day. Firms track it to understand competitive pressure: a strongly positive cross-price elasticity with a rival's product means the two are close substitutes, so the rival's pricing directly affects one's own sales. Antitrust authorities use the same measure to define markets and judge whether products compete. The complement case matters too, as with printers and ink or cars and gasoline, where a price change in one reshapes demand for the other. Because it quantifies the substitute and complement determinant of demand, cross-price elasticity links the demand shifters to concrete, data-driven strategy and policy decisions.