Cross-Price Elasticity
IntermediateCross-price elasticity measures how the quantity demanded of one good responds to a change in the price of another good.
It compares the percentage change in demand for one product with the percentage change in the price of a related product. The sign of the result shows how the two products are related.
A positive cross-price elasticity means the goods are substitutes. If the price of coffee rises by 10% and demand for tea rises by 4%, the cross-price elasticity is 0.4. People switch from coffee to tea when coffee becomes more expensive.
A negative cross-price elasticity means the goods are complements, products used together. If the price of games consoles rises by 10% and demand for video games falls by 6%, the cross-price elasticity is −0.6. Fewer console buyers means fewer game sales.
A value close to zero means the goods are largely unrelated, such as bread and televisions.
Businesses use cross-price elasticity to understand competition and pricing. A company knows that if a close rival cuts prices, its own sales may fall significantly. Competition authorities also use it to judge which products compete in the same market.
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