Cross Price Elasticity

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Elasticity is used in economics to measure the degree of responsiveness in demand in relation to an alteration in price or income. Economists use the term price elasticity of demand to express how much a change in price influences demand. Comparable, cross price elasticity determines the change in demand of one product with the increase or decrease in price on a different product. Similarly, income elasticity of demand intends to measure the change in demand after a change in consumers’ income. Elasticity is said to be elastic when the change in demand is greater than the change in price. Inversely, a greater change in price than the change in demand is considered inelastic. The following scenarios will allow a further expansion of these concepts …show more content…
Immediately, this number helps us predict that the elasticity is inelastic since, once again, the absolute value of -0.5 is less than 1.0. However, unlike Scenario 1, cross-price elasticity tries to determine how a price change in product Y will impact the demand of product X. Cross-price elasticity is calculated with the same formula mentioned in the previous example, E = %Q / %P. Therefore, if we have a price increase of 10% in product Y, we can determine that the demand of product X will drop by 5%. This indicates that the two products being compared are complements, since they have a negative elasticity, in this case -0.5. The reasoning behind this is the fact that when the price of complement Y rises, it will create an inverse reaction to the demand of complement X. Thus, when formulating the cross-price elasticity, the outcome will always be a negative …show more content…
Income elasticity attempts to represent the response in demand in relation to a change in income. Such elasticity is obtained by formulating, E = %Q / %I. Assuming the increase of income is 10%, we can determine the change in quantity demanded by solving, 10% x -2.0, which equals -20%. This indicates that a raise in income by 10% will decrease the quantity demanded by 20%. In such case the product analyzed is an inferior good since by definition, buyers will purchase less of this good as their income increases. Similarly, the fact that the income elasticity of this case is negative, predicts that the product is an inferior good, because quantity demanded and income move in opposite directions for such products. In distinction to the three previous examples, the product in this case is considered elastic because the absolute value of its elasticity is greater than 1.0, 2.0 >

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